Archives for August 2019

The major Candlestick reversal signals are very illuminating. They are hundreds of years of visual observations revealing high probabilities of a reversal occurring. Not to overstate the obvious, but if Candlestick signals didn’t work, we would not be looking at them today. The Japanese rice traders that they used candlestick signals became enormously wealthy.

The major benefit of Candlestick signals is that they are very easy to learn and identify. You do not need to learn formulas. You do not have to do extensive fundamental analysis. A Japanese Candlestick reversal signal is a visual identification of a change in investor sentiment. Of the 50 or 60 Candlestick signals, there are 10 major signals that occur at the reversals the majority of the time.

The Morning Star signal is one of the most clear, symmetrical candlestick reversal patterns.

Morning Star

The Japanese rice traders described it as the planet Mercury, the morning star. It foretells that brighter things, sunrise, is about to occur, meaning that prices are going to go higher. It is formed after an obvious downtrend. The three day signal consists of a long black body, usually one produced of the fear induced at the bottom of a long decline. The following day gaps down. However, the magnitude of the trading range remains small for the day. This produces an indecision type – day. The third day is a white candle day. The white candle represents the fact that the bulls have now stepped in and seized control. The optimal Morning Star signal would have a gap before and after the star day. 

The make up of the star, an indecision formation, can consist of a number of candle formations, however a Doji or a spinning top is usually the predominant formation in a Morning Star signal. The important factor is to witness the confirmation of the bulls taking control the next day. That candle should consist of a closing more than half-way up the black candle of two days prior.

Identifying the Morning Star signal is relatively easy. It is visually apparent to the eye. There are some very simple parameters that can enhance the Morning Star signal’s probabilities of creating a reversal.

1. The longer the black candle and the white candle, the more forceful the reversal. This demonstrates a more severe change in investor sentiment.
2. The more indecision that the star day illustrates, the better probabilities that a reversal will occur, such as a Doji signal.
3. A gap between the first day and the second day adds to the probability that a reversal is occurring. A gap before and after the star day is even more desirable.
4. The higher the close of the third day, coming up past the middle point of the black candle of the first day, reveals more potential in the strength of the reversal.

The probability of a Morning Star signal reversing a trend becomes extremely high when found in oversold conditions. Using a simple indicator such as stochastics, in the 20 area or below, represents an oversold condition.The most important element of the signal is the magnitude of the white candle’s close during the third day.

Candlestick analysis can be used in all trading entities. Whether doing a long-term evaluation on a monthly Dow chart or a one minute chart trading the e-minis, the signals working just as effectively for revealing change in investor sentiment during that time frame. As seen in the daily Dow chart, the Morning Star signals revealed when the Dow established a bottom. Being able to analyze the direction of a DOW l increases the probabilities of being a correct trade when analyzing individual stock charts.

Do you chase a stock that is already up 12% on the day? What do you do when one of the your stocks announces an earnings warning? What do you do when one of your stock positions announces an SEC investigation and after a pleasant up-trend, it crashes and goes the other direction? Or a company you own announces a huge new surprise contract, reversing its down-trend, gaps up, continues higher. Will prices bounce right back after the news is digested? These situations baffle most investors. However, having the knowledge of Candlestick formations provides huge advantages. The formation that the price move creates is an important function of how to profit from that price movement. 

Big dramatic moves! What do you do? Many investors act like deer in the headlights, do nothing as most advisors suggest. But Candlestick analysis tells you instantly what to do. An announcement can completely reverse a trend direction. For example, if a trend has been in progress, whether strong or mild, and a surprise announcement occurs, how that formation rolls out will tell the investor what to do. One viable possibility is observing the previous day’s candle formation, with the open price, then the closing price continuing in the direction of the existing trend. After the announcement, the price alters its direction, opening at the same level as the previous day, a gap open, and proceeding to close in the complete opposite direction of the previous day. This is known as the Kicker signal. It is a high-powered candlestick signal. This signal should never be ignored. It can create huge easy profits.

The Japanese rice traders identified approximately 50 reversal and continuation signals through their centuries of developing candlestick signals. Of these, about 8 major signals will provide more trades than most investors will ever need. We put the Kicker signal in the category of a “major” signal because the results created from the aftermath of the Kicker.

Kicker Top and Kicker Bottom Formations

The Kicker Signal is the most powerful signal of all. It works equally well in both directions. Its relevance is magnified when occurring in the overbought or oversold areas, but is effective no matter where it appears in a price trend. 

Consider the investment sentiment that formed this pattern. It is formed by two candles. The first candle opens and moves in the direction of the current trend. Investors are continuing with the established trend, closing the price further in the existing direction. Then, something has occurred to violently change the direction of the price. Usually a surprise news item is the cause of this type of move. The signal illustrates such a dramatic change from the current price direction that the new direction will persist with strength for a good while. (There is one caveat to this signal. If the next day prices gap back the other way, liquidate the trade immediately. This does not happen very often, but when it does, get out immediately.) The second candle opens at the same open as the previous day, a gap open, and heads in the opposite direction of the previous day’s candle. The bodies of the candles are opposite colors. This formation is indicative of a dramatic change in investor sentiment. The candlesticks visually depict the magnitude of the change.

DLTR, Dollar Tree Stores

Due to the change being so dramatic, and the initial reversal effecting a large percent of the price, the trend usually persists in the new direction for an extended period of time. First, the news report takes investors by surprise. The people that heard it from the time it was reported bailed out on the open. Others will hear about the news later, making their investment decisions during the next day or so. Others may not hear about it for a week or so. If it is bad news, the overhanging supply keeps weighing down the price for a few weeks. If it is good news, it will take a good while for the enthusiasm to wane. These moves can usually be substantial, especially if it is moving in the same direction as the market in general.

The Kicker Formula

The Kicker Signal is can be easily formulated for search purposes. The position of the signal, in a trend, is not important. The important factor is that a severe change in investor sentiment has occurred. Because the Kicker signal is a two-day signal, two opposite elements are required. First, in a Bullish Kicker Signal, the predominant trend should have been downward. The first day of the signal would have opened, traded down, then closed lower than where it opened.

(O1 > C1)

Day two should have opened equal to or above the open of day one and then closed higher than the open of day two.

AND (O => O1) AND (C > O)

Do not let the magnitude of a kicker reversal signal deter you from making the trade. The announcement or event that created the Kicker signal in that stock is not going to be a one-day affair. It has reversed the direction of investor sentiment. That was the surprise in which the investment community reversed its outlook. The big percentage move, that first day before you got in, is just a small part of the rest of the move.

Many investors will mistakenly wait for the price to pull back so that they can get in. The candlestick investor does not want to see a pullback. The buyers should maintain their buying to make this trade a strong one. To wait for a pullback is not the buying pressure that you would want for a strong up-move stock.

The Bearish Kicker Pattern has the opposite formulas. Of course the trend should be in a predominantly upward direction. Usually a bad news announcement will send the stock price crashing. The formula should be.

(O1 < C1)

The open on the following day is equal to or lower than the open of the previous day and continues down, closing lower than the open.

AND (O <= O1) AND (C <= O)

The more overbought when the signal started, the better. Again, the magnitude of the reversal is directly related to the strength that should be conveyed in the remaining portion of the new trend. Do not be afraid to participate in the move despite the magnitude of the initial move. Because the news was a surprise, it will take at least a few days, if not much longer, for the investment community to digest and assess the ramifications of the surprise.

Candlestick Advantage

Knowing what a candlestick signal looks like creates tremendous profit making advantages. If a surprise announcement occurs, the Candlestick trader can take advantage of the price movement immediately versus waiting to see what direction the trend will evidentially take. These opportunities will happen almost every day. Having the proper search criteria provides a constant supply of highly profitable trades. In a universe of 9,900 stocks, it is likely that one or two will have a surprise external event that will drastically alter the perception of the future of those companies. Violent price moves usually leave investors in their tracks. Having the foresight of what candlestick signals can be forming creates great opportunities to make big profits. Somebody is taking advantage of the big profit situations. No reason it can’t be you.

Training Tutorial available on The Kicker Signals

The most striking facet of Japanese candlesticks is their ease of identification. Hundreds of years ago, Japanese rice traders become ultra-wealthy using Candlestick signals to trade rice. These signals were developed through simple observation. As years of successful utilization of the signals progressed, they even were able to analyze the psychology behind forming the signals. This provided a very powerful tool for projecting future price movement.

Two of the most compelling candlestick signals are the Bullish Engulfing Pattern and Bearish Engulfing Pattern. They are most effective when founding the oversold area, at the end of a substantial downtrend or the overbought area for the Bearish pattern. The Bullish Engulfing pattern consists of two bodies. The first body is the same color as the current trend, the second is the opposite color. The signal day opens lower than the previous days close, then it trades higher so by the end of the day, it will close above the previous days open. This new white candle now engulfs the previous days candle, known as the DAKI, or the embracing line.

Bullish Engulfing Pattern

Witnessing a white bullish candle, engulfing the previous black candle, stands out like a neon sign after a series of black candles. It becomes very plain to see that a change has occurred in investor sentiment. A couple of simple factors make the Bullish Engulfing pattern more convincing. The bigger the previous days candle being engulfed, the more effective the new trend signal will be. Or the lower the open of the white candle, then coming back up to engulf the previous day, the more powerful the next advance should be.

The formula is relatively simple:

(O1>C1) and (O O1). Defined as the open of yesterday is greater than the close of yesterday. And the open today is less than the close of yesterday, And the close of today is greater than the open of yesterday. 

The Bullish Engulfing pattern represents a complete change in investor sentiment. Using this pattern as a buy signal eliminates the need to grab for the fallen knife. When is “low” the right time to buy? The Bullish Engulfing pattern reveals when the buyers have stepped in. Note in the Dow Jones industrial chart that the whole market sentiment reversed at the Bullish Engulfing formations. The signals work equally well when analyzing indexes as they do for individual stocks, commodities, futures or any other trading entity.

Having the knowledge of just eight or nine Candlestick signals, the Bullish and Bearish Engulfing patterns being on that list, produces huge advantages for analyzing the direction of the markets in general. This reinforces the analysis of an individual stock price. Training Video for Engulfing Patterns 

Dow Jones Industrials

The Bearish Engulfing pattern is the exact opposite that of the Bullish Engulfing pattern. After an obvious uptrend, the bulls finally gap it open due to their exuberance to get in the position. If stochastics are showing that this is occurring in the overbought area, the candlestick investor becomes very diligent. A gap, however slight, away from the previous days close, should alert the candlestick investor that the trend may be ending. If long, putting a stop one half way down the last bullish candle is usually prudent. If trading comes back through that point and closes below the open of the previous day, a bearish engulfing pattern has formed. Now you can short the stock with confidence. If nothing more than being long, you now know to close the position. Knowing the direction of the market allows the investor to establish positions with more confidence. Knowing that the market indexes have turned positive permits an investor to commit funds to the long side with more aggression than normal. As seen in the above DOW chart, being able to visualize the Bullish Engulfing patterns after extensive downtrend would have allowed an investor to get in and make impressive profits.

As in the Bullish Engulfing pattern, the Bearish Engulfing pattern is very easy to see. It stands out as a blatant change of direction in the trend. The white bodies in the uptrend now have a large black candle stopping the trend.

Bearish Engulfing Pattern

The black candle acts as an obvious sign against the uptrend. The formula is exactly opposite of the Bullish Engulfing pattern formula. ( C1 >O1) and the(O>C1) and (C>O1), The close of the first day is higher than the open, thus a white candle. The next day has an open than is higher than the previous day’s close and closes lower than he previous days open.

The visual depiction of a Bearish Engulfing pattern creates an ominous darkness at the top of a trend. It does not take learning complicated formulas or analyzing numerous indicators to understand a candlestick signal.

Enron

Note how the Bearish engulfing pattern terminates the uptrend in the Enzon Inc. chart.. As the trend persists, buyers finally get so exuberant, they gap the price up. It immediately starts losing ground until it finally closes lower than where it opened the previous day. This clearly illustrates that the sellers have gained strength. That confirmation of selling starts a trend of selling.

The Engulfing patterns are statistically valid for indicating reversals at the tops and the bottoms. As stated early, the signals are highly accurate when a bullish Engulfing pattern is witnessed during oversold conditions. Conversely, the Bearish Engulfing pattern is valid in the overbought area. But both have a recognized indicator at the other end of a trend. A big bullish Engulfing pattern observed at the top of a trend usually represents the last gasp of the trend. The same occurs at the bottom of a trend with the Bearish Engulfing pattern. The last gasp sellers create a bearish engulfing pattern which usually is followed by increased buying. Remembering this fact provides another opportunity to extract profits out of a price trend. When the “hopeful” are buying once more at the top or the “panicked” are selling their last stock position at the bottom, the Candlestick investor is already familiar with what that last bullish or bearish engulfing pattern indicates at the wrong end of a trend. Putting on positions becomes a comfortable endeavor while everybody else is buying or selling the wrong way.

The Candlestick Engulfing patterns have survived centuries of investment skepticism. The Japanese Rice traders become ultra-wealthy utilizing these patterns. This is not rocket science. Rice traders developed high profit trading programs using purely visual recognition of reoccurring high probability formations. This is the most convincing form of statistical analysis. Use it to your advantage.

Stephen W. Bigalow is author of “Profitable Candlestick Trading, Pinpointing Market Opportunities to Maximize Profits” and principal of the www.candlestickforum.com, the leading website on the Internet for providing information and educational material about Japanese Candlestick investing. Over fifteen years of extensive study and utilization of candlestick analysis has produced an array of easy-to-learn educational material about Candlesticks. As one of the leading Candlestick experts in the nation, Mr. Bigalow, through his consulting with major trading firms, has developed multiple successful trading programs for the day-trader to the long-term hold investor.