Change of Character (ChoCh) is one of the key Smart Money Concepts used by the Inner Circle Traders. For those traders who want to master price action trading and hope to follow institutional traders, instead of trying to fight against them in the market, it might be a good idea to understand the ChoCh concept and try to implement it in their trading strategies.
What is Change of Character?
Change of Character (ChoCh) is a price action pattern that signals about a shift in the prevailing market trend. It occurs when price breaks through the previous swing high (in a downtrend) or low (in an uptrend). It signals about a potential fundamental change in the market structure (or the character of the market, hence the name). In simpler terms, such price action suggests that the current trend has run its course, and price may start moving in the direction opposite to the current trend.
Bullish ChoCh
Bullish Change of Character happens in a downtrend when the price breaks above the previous swing high. It signals that bulls are trying to wrestle control of the market from bears.
For a bullish ChoCh to occur, the market should first establish a downtrend - a series of lower highs and lower lows. Once the price rises above the most recent swing high, a bullish Change of Character happens.
It is important to remember that a failure to log a lower low, or even a minor uptrend with higher highs and higher lows, does not automatically mean that a Change of Character has occurred. Only once the price goes beyond the previous lower high, the ChoCh is established.
In the following example, a minor trend reversal was established, but the price did not reach the previous lower high; therefore, no Change of Character occurred.
Bearish ChoCh
Bearish Change of Character resembles a mirrored version of a bullish ChoCh. It occurs when a price falls below the most recent swing low in an uptrend. It sends a message that bulls are losing control of the market to bears.
For a bearish ChoCh to happen, the market needs to enter an uptrend first - a number of sequential higher highs and higher lows. When the price falls below the most recent swing low, then a bearish Change of Character is detected.
As in the case of a bullish ChoCh, a failure to continue the previous trend does not guarantee an immediate bearish Change of Character. Just because the price failed to reach a new swing high or even started to log lower highs and lower lows, it does not mean a Change of Character by itself. Only after prices fall below the most recent lower low, does a bearish ChoCh appear.
In the following example, the uptrend failed, but the price did not reach a new low; therefore, no Change of Character happened yet.
Difference between Change of Character and Break of Structure
Some traders, inexperienced in the Smart Money Concepts, may confuse Change of Character with Break of Structure (BoS). Both involve breaking through the previous swing high or low, and some articles even describe ChoCh as a 'break of the market structure.'
The vital difference between those concepts is that BoS breaks in the direction of the existing trend, while ChoCh breaks in the opposite direction. Therefore, in an uptrend, BoS occurs when the price breaks above the previous higher high. And in a downtrend, BoS happens when the price falls below the previous lower low. This also highlights the opposite nature of those concepts: BoS confirms the continuation of the existing trend, while ChoCh signals that the trend is running out of momentum.
An attentive reader might notice that the description of Break of Structure resembles conditions that should precede Change of Character. And indeed, in terms of SMC, one can say that BoS should happen, establishing a trend, before ChoCh can occur.
How Internal and External ChoCh work on different timeframes
Change of Character can appear on any timeframe (as well as on any instruments). In fact, when you see ChoCh on a higher timeframe and then look at the same instrument on a lower timeframe, you will see at least one ChoCh that precedes ChoCh on the higher timeframe. That is why some experts call ChoCh fractal by nature. Depending on the timeframe in which ChoCh appears, it can be considered an internal or external ChoCh.
External Change of Character is those ChoCh that appear on higher timeframes and show broader market direction. When you go down to a lower timeframe, you will probably see many more Changes of Character (as well as Breaks of Structure). ChoCh that you see on lower timeframes is called Internal Change of Character and shows shifts in smaller, shorter-lived trends.
Trading ChoCh on higher timeframes, such as daily or weekly (external ChoCh), is more suited for swing or position traders. Such ChoCh shows a broader picture and more significant changes in the market structure and is less prone to market noise. On the downside, it will take a longer time for it to happen, which may cost you valuable trading opportunities.
ChoCh on lower timeframes, such as 15-minute or hourly (internal ChoCh), is more useful for scalpers and day traders. It appears more frequently and allows more precise entries into the market. But it is also more prone to market noise and sending false signals.
Internal ChoCh can still be useful for trading on higher timeframes, as, due to the fractal nature of ChoCh, internal Change of Character can predict Change of Character on a higher timeframe before it happens. Be warned, though, that not every internal ChoCh will be followed by external ChoCh. Sometimes, internal ChoCh can result just in a minor pullback, not a fundamental shift in the market.
Why do traders care about ChoCh?
Change of Character is widely used in SMC trading strategies. It allows to anticipate trade reversals and is a good addition to the tools that allow you to set your entry and exit points, as well as stop-loss and take-profit levels, more precisely. ChoCh also shows you fundamental shifts in the prevailing market sentiment.
For trend traders, ChoCh suggests that it is time to exit the position.
For countertrend traders, ChoCh can offer an entry point into a position.
For example, prices are moving in an uptrend, and then suddenly a bearish Change of Character happens. For bulls, it is a signal to exit their positions. Meanwhile, bears may use it as an entry point for short positions.
Is it just rebranding of traditional trend reversal?
A perceptive reader might notice that the description of Change of Character suspiciously resembles the tried-and-true concept of trend reversal. And indeed, ChoCh can be considered a rebrand of the old concept.
It is a common criticism of the Smart Money Concepts that they are just common concepts renamed, rebranded, and repackaged to sound smarter and more sophisticated than they really are. SMC skeptics go even as far as claiming that all their theory lacks solid evidence.
Proponents and defenders of SMC argue that their ideas reveal fundamental forces of the market, driven by large institutional participants. And combining them together into a single system allows traders a better understanding of the market, to gain greater insights into its inner workings, and to achieve more precise and successful trading.
The truth is, even if Change of Character is just good old trend reversal with a different name, that does not make it useless for traders. On the contrary, it means that all the knowledge and experience related to trend reversal, gathered by traders over the decades, can be applied to Change of Character. Just do not let the fancy name fool you into thinking that it is some novel and unique concept.
How to identify ChoCh?
To identify a Change of Character on a chart, just follow a few simple steps:
- Identify a trend. For ChoCh to occur, a trend needs first to be established. Thus, you need to see a sequence of higher highs and higher lows or lower highs and lower lows on the chart. Or, in Smart Money Concepts terms, you need to see a Break of Structure (preferably several).
- Mark the most recent swing high (in a downtrend) or swing low (in an uptrend). As ChoCh, by definition, occurs when prices break through the most recent swing point in the direction opposite to the trend, you need to identify such a point to see when ChoCh would occur.
- Wait for the decisive price action. After identifying the trend and the most recent swing point, just wait for a ChoCh to occur. And if it does not happen, and the price continues to move in the previous direction, you will need to keep marking new swing price points until ChoCh happens.
How to trade ChoCh?
The basic idea for the Change of Character is that it shows when the trend is weakening and may be ready to reverse. Therefore, you should use it accordingly.
For trend traders, using of ChoCh is easy: when it occurs, you should consider exiting your positions. Though it is a good idea to get confirmation from other indicators as ChoCh by itself is not always followed by a trend reversal.
But ChoCh is probably more interesting for countertrend traders, as it can give a signal when it is time to open a position and even point to a level at which you can do so. Here are the steps that a countertrend trader can take:
- Establish a trend. After all, you cannot be a countertrend trader (or trend trader, for that matter) if there is no trend.
- Pay attention to the most recent swing point. For example, if the price is in an uptrend, you should focus your attention on the most recent higher low.
- Wait for ChoCh to occur. In an uptrend, wait for the price to break below the most recent higher low. In a downtrend, act when the price rises above the most recent lower high.
- Look for confirmation from other tools. Relying on Change of Character alone can be very dangerous, as not every ChoCh is followed by a reversal of the trend direction. Use other tools that can give insights into trend behavior and predict trend reversal, such as MACD, RSI, and Bollinger Bands. Of course, if you are using ChoCh, that means you probably believe in Smart Money Concepts. So, it makes sense to use other SMC tools together with ChoCh to help you in your trading decisions.
- Do not forget about risk management. The most common advice in relation to ChoCh is to set your stop-loss at the most recent swing high (in case of a bearish ChoCh) or the most recent swing low (in case of a bullish ChoCh).
Combining ChoCh with other Smart Money Concepts
As was mentioned in the previous chapter, if you use Smart Money Concepts, it makes sense to combine Change of Character with other SMC tools. The general idea is that the more SMC indicators you can see on a chart close to each other or, even better, coincide with each other, the stronger the signal. The SMC tools regularly used with ChoCh are:
- Order blocks. Order blocks show the area where a lot of pending limit orders are placed, usually by large institutional traders. On a chart, they look like areas of price consolidation followed by a sharp price move in one direction. Such a move, combined with ChoCh, gives a strong signal for traders.
- Liquidity sweeps. Liquidity sweeps refer to the instances when large market participants trigger stop-losses placed by retail traders, grabbing all the liquidity they need to extend the trend. As liquidity sweeps are supposed to show in which direction big institutional traders want to push the market, trading ChoCh created by such price actions is usually a safe bet.
- Fair Value Gaps. Fair Value Gaps refer to big price moves that leave a gap on the chart. The idea is that price often pulls back to fill the gap as FVG leaves many orders unfulfilled before resuming its movement in the direction of the strong move. FVG that happens shortly after or, even better, together with ChoCh, is considered a very strong signal that the price will continue to move in the direction of the significant price action.
Pros and cons of using ChoCh
Advantages
Change of Character can provide a number of advantages for traders who use Smart Money Concepts, such as:
- Early detection of trend reversals. ChoCh allows traders to detect when a trend is about to reverse before the new trend fully develops.
- Increase in trade accuracy. ChoCh provides specific entry/exit points for positions. You can increase the precision of your trading even further by using ChoCh across different timeframes.
- Improved risk management. ChoCh sends a signal when it is time to exit positions, helping traders to avoid trading against the new trend. Additionally, ChoCh can help in setting up stop-losses and profit objectives.
- Works with different instruments. ChoCh is a universal tool that can work with any currency pair, as well as cryptocurrencies and commodities.
- Works on different timeframes. ChoCh does not require specific timeframes, and traders can use it on any timeframe or even on multiple timeframes. In fact, checking different timeframes for signs of ChoCh is recommended as it increases trade precision.
- Helps to trade similarly to big market movers. Inner Circle Traders and other proponents of Smart Money Concepts insist that SMC help to provide insight into how large institutional market participants trade. Being one of the tools provided by SMC, ChoCh, in theory, can help you follow big players, trading with them, not against them.
Disadvantages
While a Change of Character can be potentially a useful tool, it is not perfect, and using it can carry several drawbacks. Among them are:
- False signals. ChoCh can send false signals, as not every shift in market structure results in a trend reversal. Lower timeframes and choppy or range-bound markets are especially dangerous in this regard.
- Late signals. While ChoCh has the potential to warn traders about trend reversals early, relying solely on this tool without using other indicators can result in missing the optimal moment of entry and late entry into the new trend.
- Requires experience. For inexperienced traders, it can be hard to identify ChoCh, especially on noisy markets. Remember: not every move beyond the most recent high or low means Change of Character.
- Lack of volume data on the Forex market. Usually, trade volume is a good indicator that allows us to distinguish between real strong moves and random short-lived jumps and drops in prices. As such, it is often a good tool to accompany ChoCh. Unfortunately, the Forex market is unable to provide information about trade volume; therefore, traders can rely only on price action.
- Change of Character is just a rebrand of a common trend reversal. Ultimately, ChoCh is not some new breakthrough concept but rather a rebrand of an old and familiar term.
Conclusion
Change of Character is a vital tool for traders using Smart Money Concepts, which can help in identifying trend reversals early. Used properly, it has the potential to increase the profitability of your trading significantly. But as with any tool, it should be used carefully. Learn to use it by experimenting on demo accounts before using real money, combine it with other tools and indicators, and do not forget about risk management.
