Trading Tip : Candlesticks & Engulfing

[tradingadvantagetm 10]

Candlestick charts have all kinds of potential patterns that technicians are watchful for. One of the easiest to spot is an engulfing pattern. This set-up consists of two candlesticks, one of which is “engulfing” the previous one. That means the body of the second candlestick is longer than the first one. It doesn’t have to extend beyond the wicks of that first candlestick, just the real body. period of time.

 

Spot an engulfing candlestick and you might be seeing a reversal signal

 

When the real body of a second candlestick extends beyond the previous one, the participants are behaving in a particular way. The candlestick is bigger because some combination of opening price and buying or selling pressure is making it bigger. These combinations can tell you if there is potential for an existing trend to change.

 

Candlestick fans are watching for an engulfing candlestick of a different color

 

The reversals are spotted when there is a hollow candlestick engulfing a filled one or vice versa (red and green if you are using a chart program with colors.) Don’t get caught up in anything involving a doji – those are pretty easy to engulf.

 

If the market was in an apparent uptrend and a hollow (or green) candlestick is engulfed by a filled (or red) one, this might be a signal of a bearish reversal. The second candlestick shows that the market opened above the prior closing price and then selling pressure came in and the market was pushed below the prior opening price.

 

Finding a hollow (or green) candlestick engulfing a filled (or red) one could be a bullish reversal signal in an established downtrend. In this case, the hollow candlestick would show that the session opened at a price below the prior close, where the real body starts below the filled candlestick from the previous session. Buying ensued and the market price moved through and above the prior opening price.

 

Engulfing patterns can be easy to spot – look for larger candlestick bodies to indicate firmer potential signals

 

Remember, watch for the real body of a second candlestick to engulf the first. If it is a contrary to the prevailing trend, you might have a reversal signal on your hands. Look at the buying or selling pressure as an indication of market direction. As with all technical chart patterns, keep an eye on the following trading sessions to confirm the move. Watch for further weakness after a bearish engulfing pattern or continuing strength on a bullish engulfing pattern.

 

Larry Levin

President & Founder

[gianno 10]

I was never able to get a system based on candlesticks that worked. All backtests showed no edge.

 

What are the historical results of these candlestick formations in selected markets? It is interesting what this guy writes about the subjective in patterns. His example involves an inside day. Only by following his type of analysis one can make sense of chart patterns IMO.

 

 

Candlestick charts have all kinds of potential patterns that technicians are watchful for. One of the easiest to spot is an engulfing pattern. This set-up consists of two candlesticks, one of which is “engulfing” the previous one. That means the body of the second candlestick is longer than the first one. It doesn’t have to extend beyond the wicks of that first candlestick, just the real body. period of time.

 

Spot an engulfing candlestick and you might be seeing a reversal signal

 

When the real body of a second candlestick extends beyond the previous one, the participants are behaving in a particular way. The candlestick is bigger because some combination of opening price and buying or selling pressure is making it bigger. These combinations can tell you if there is potential for an existing trend to change.

 

Candlestick fans are watching for an engulfing candlestick of a different color

 

The reversals are spotted when there is a hollow candlestick engulfing a filled one or vice versa (red and green if you are using a chart program with colors.) Don’t get caught up in anything involving a doji – those are pretty easy to engulf.

 

If the market was in an apparent uptrend and a hollow (or green) candlestick is engulfed by a filled (or red) one, this might be a signal of a bearish reversal. The second candlestick shows that the market opened above the prior closing price and then selling pressure came in and the market was pushed below the prior opening price.

 

Finding a hollow (or green) candlestick engulfing a filled (or red) one could be a bullish reversal signal in an established downtrend. In this case, the hollow candlestick would show that the session opened at a price below the prior close, where the real body starts below the filled candlestick from the previous session. Buying ensued and the market price moved through and above the prior opening price.

 

Engulfing patterns can be easy to spot – look for larger candlestick bodies to indicate firmer potential signals

 

Remember, watch for the real body of a second candlestick to engulf the first. If it is a contrary to the prevailing trend, you might have a reversal signal on your hands. Look at the buying or selling pressure as an indication of market direction. As with all technical chart patterns, keep an eye on the following trading sessions to confirm the move. Watch for further weakness after a bearish engulfing pattern or continuing strength on a bullish engulfing pattern.

 

Larry Levin

President & Founder- Trading Advantage

[Attila 10]

Candlestick patterns along with all other reversal setups/indicators are suddenly very effective when located around relevant price areas.. In a vacuum, they are hit and miss.

[wrbtrader 10]

I was never able to get a system based on candlesticks that worked. All backtests showed no edge.

 

What are the historical results of these candlestick formations in selected markets? It is interesting what this guy writes about the subjective in patterns. His example involves an inside day. Only by following his type of analysis one can make sense of chart patterns IMO.

 

Your chart represent candlestick "lines" and not candlestick "patterns". That's why there's no edge due to the lack of market context. Simply, a trader that's profitable via candlestick "patterns" are using market context.

 

Thus, if someone says there's no edge and they only show candlestick "lines"...that's a big problem they have and have yet to realize.

 

Also, there are published academic works that show "historical results" and/or "backtest results" showing candlestick patterns "do not work" or showing candlestick patterns "do work". I guess you can use your bias and decide which one has merits to you. Yet, regardless to which one you choose sides with...just remember those that did the publication (academic review) did so via their own trade management rules after entry that usually doesn't represent what a profitable trade would use as trade management.

 

Moral of the story, don't bother use nor test candlestick "patterns" if you're not willing to do it the way profitable traders are using them...via market context...think outside the box.

Edited November 16, 2011 by wrbtrader

[gianno 10]

Simply, a trader that's profitable via candlestick "patterns" are using market context.

 

Can you define market context? Thanks

[wrbtrader 10]

Can you define market context? Thanks

 

Hi,

 

I give hypothetical and real examples of market context (within context) in a prior Japanese Candlestick discussion called "Do Candlesticks Work" @ http://www.traderslaboratory.com/forums/technical-analysis/7900-do-candlesticks-work.html

 

Specifically, read very carefully my replies to the TL member guruji (a candlestick pattern programmer) because the replies will clearly define market context. Yeah, he too did not understand market context nor knew about its importance. Further, in that thread, I use the phrase "within context" and it's the same as the phrase "market context".

 

Just remember this after you read the above thread, Japanese Candlestick Analysis was designed for use "within context" of having a strong understanding of the market environment prior to the appearance of any candlestick pattern. Unfortunately, traders have tried to simplify it's use via using it "without" market context because the traders (programmers, coders, backtesters) can not or do not know how to code market context let alone spend the time to understand market context.

[gianno 10]

Just remember this after you read the above thread, Japanese Candlestick Analysis was designed for use "within context" of having a strong understanding of the market environment prior to the appearance of any candlestick pattern.

 

If you have such a strong understanding of the market enviroment, any indicator will work. The objective of technical methods is to remove the need for this understanding and the emotions and other negative things that come with it.

[wrbtrader 10]

If you have such a strong understanding of the market enviroment, any indicator will work. The objective of technical methods is to remove the need for this understanding and the emotions and other negative things that come with it.

 

Hi,

 

I don't know who told you about the "objective" of technical methods...that is not the purpose or objective of technical methods. Thus, TA was not designed to replace, remove the understanding of markets or price action. In contrast, it was designed to "aid with the timing of entry or exit" into that understanding of markets or price action.

 

Regardless, if you're consistently profitable without knowing a darn thing about the price action you're trading or the markets in general...congrats...you'll be the first one I've met online as such.

 

As for emotions, if you seek to remove them, I would suggest you try automation trading.

Edited December 5, 2011 by wrbtrader