Bullish and Bearish Divergence Patterns

Comprehensive Guide to Divergence Patterns: Understanding How to Spot Bullish and Bearish Market Reversals"

By Komeil Tabaar Last updated Jul 29, 2023 0

By reading the article “Divergence Patterns” published in Adaas Investment Magazine, you will get acquainted with Bullish and Bearish Divergence Patterns and their usage in general. This level of familiarity can be enough when you need educational information about this topic.

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In the technical analysis of the price of tradable instruments in the financial markets, many techniques and patterns have been developed, such as the Wyckoff pattern, each of which provides advantages and features for the price analysis process. These analytical patterns have great importance among investors and traders and have attracted the attention of financial market analysts over time.

Among the price technical analysis patterns, divergence patterns to predict the upward and downward trends have been able to achieve high popularity. These Patterns, along with other asset price analysis factors, can be considered a suitable supplement to reduce the amount of analysis risk.

Table of Contents

What are bullish and bearish divergence patterns?

Divergence patterns indicate the possibility of changing the price trend. These patterns appear in the asset price chart when the direction of the indicator used by the analyst and the price trend is opposite to each other. In the following, we have explained to you the concept of bullish and bearish divergence patterns in financial markets in simple language.

Example of detecting bullish and bearish divergence patterns

Imagine on the Bitcoin price chart on the daily time frame, an uptrend has been formed from the $30,000 to $40,000 area in the last 18 days.

The analyst uses the trading volume indicator but realizes that since the upward trend of the Bitcoin price was formed in the last 18 days, the trend of the trading volume has been completely decreasing and is moving in the opposite direction of the price trend.

In this case, a bearish divergence pattern has occurred and the probability of changing the price movement increases. The reason for this possibility is the decrease in the strength of the price trend due to the decrease in the volume of trades. To put it simply, traders and investors do not believe in price increases, and for this reason, they refuse to record new trades.

What is the usage of bullish and bearish divergence patterns?

One of the most important applications for using this pattern of technical price analysis is to identify the possibilities for changes in the direction of the price trend. According to the example we explained to you in the previous section, it is possible to check the reasons for the inconsistency of the direction of movement of the used indicator with the price trend and calculate the probability of price trend change.

Other important applications for the bullish and bearish divergence patterns can be mentioned to identify resistance and support levels of asset prices. Levels play a very important role in the balance of supply and demand in trading orders and will also have a direct impact on the movement of asset prices.

Example of identifying resistance and support areas with the help of divergence patterns:

Assume a situation where the price trend of an asset is upward, but on the opposite side of the trading volume indicator, there is a downward trend, it can be concluded that the price is approaching a resistance level, and traders and investors should stop trading at that level. Because of the increase in the amount of risk is avoided.

Also, in the opposite case, if the price trend of an asset has a downward slope, but at the same time, the volume indicator has an upward trend, it can be concluded that the price is approaching a support level, and at this level, due to high demand, the volume of trades will increase.

Introduction of bullish and bearish divergence patterns.

divergence patterns have different models with different applications. These patterns have become a highly important factor in the process of technical price analysis to check the possibilities of changing the direction of the trend, which we have introduced and reviewed for you.

Regular Divergence

We reviewed the standard type of bullish and bearish divergence patterns for you in the examples of the previous section. In this model, the direction of the price trend of an asset moves in the opposite direction of the trend of an indicator such as trading volume.

In this model, it is expected that if it appears in the price chart, the current price trend will change direction and a new price trend will begin. The regular divergence pattern is divided into two types, which are:

Positive Regular Divergence

This type is formed at the end of a downtrend. When two consecutive bottoms pattern in the price chart appears, but the indicator used forms an opposite (upward) trend, a positive regular divergence pattern appears in the chart.

When this pattern occurs, the possibility of changing the direction of the price trend increases, and the tendency to record buy trades increases. This pattern can be used as one of the factors to detect the formation of an upward trend.

Negative Regular Divergence

This type is formed at the end of an uptrend. When two consecutive price ceilings are formed in the price chart, but the used indicator forms an opposite (downward) trend.
In this case, the probability of starting a downward price trend increases and can be used as a supplementary analytical factor.

Hidden Divergence

On the opposite side of the normal divergence pattern, which leads to an increase in the probability of changing the price trend, there is the hidden divergence pattern, which leads to an increase in the probability of the price trend continuing.
These divergence patterns generally appear in the correction phase of the price trend and its very important point is:

To detect the hidden divergence pattern, we compare the price valleys in the upward trend and the price peaks in the downward trend with the indicator trend. The results are divided into two types, which are:

Negative Hidden Divergence

At the end of a downtrend, the price trend forms a new price peak below the previous peak. At the same time, the used indicator has formed an upward trend, which indicates an increase in the probability of continuing the downward trend, as well as the formation of a downward price channel pattern.

Positive Hidden Divergence

In an upward price trend, the trend indicator used changes to a downtrend. But this issue occurs when the price trend forms a new price valley higher than the previous price valley.
In this case, the possibility of continuing the upward price trend increases, and it is also used to detect the formation of an upward price channel pattern.

Important tips about bullish and bearish divergence patterns.

Many novice traders and investors suffer from regarding mistakes when using patterns and price analysis techniques that cause financial losses and successive failures in their trades.

In the following, we have prepared important tips for you, so that by studying them when using price analysis patterns such as bullish and bearish divergence patterns, you can reduce the risk of your transactions to the minimum possible amount.

An analytical factor can never be the only reason to invest in an asset. The price of any asset is a function of various variables.
For changing the price trend, many different reasons can be effective at the same time, and the existence of divergences cannot be a guarantee for changing the trend in the direction of your analysis.
Different indicators are used to detect divergences, but 3 indicators which are volume, RSI, and MACD can be introduced as the most popular ones.
In order to better recognize divergences, the analyst must first be able to correctly recognize price trends in different time frames. If the trend is misdiagnosed, the possibility of misdiagnosing bullish and bearish divergence patterns increases.

The End Words

At Adaas Capital, we hope that by reading this article you will be fully immersed in the bullish and bearish divergence patterns. You can help us improve by sharing this post which is published in Adaas Investment Magazine and help optimize it by submitting your comments.