Trend Reversal Patterns – Features of the ApplicationThursday, 3 August 2017 09:23
Candlestick analysis is widely used in the Forex market. Traders appreciate it for the opportunity to assess the state of the market quickly, and to predict the future behavior of the price as well.
Such an approach is based on the analysis of the figures made by candles on the chart. Each character precedes individual events in the market and gives a lot of information about the power of the trend and the trading dynamics.
We will consider one of the most common models of a trend reversal. If you see that the price is turning, but you’re not sure about the trend formation - take a look at the candles. If there are one of the figures described below on the chart, this will serve as an additional confirmation.
Hammer and Hanging Man
These figures are the candles with a small body and long lower shadows. The upper shadow is absent or significantly shortened. They differ by the phase of the trend during which they appear.
- Hammer is usually a bearish candle. It’s formed within a downtrend and signals its end.
- Hanging man is a similar figure that appears within an uptrend, and says about the reversal.
The lower shadow is much longer than the body. At the same time, the smaller is the body, the stronger the trend reversal will be.
If the chart shows a white hammer, this indicates a rapid fall in the value of the asset for the last day, after which it approached the highest price per session. Obviously, this situation is better for bulls.
The black hanging man says that the price couldn’t rise to the open level. This situation is beneficial for bears. The session will begin at the highest price, after which it will decrease, and then rise again. The session will end at a level close to the maximum value.
When a hanging man appears, it’s worth paying attention to the gap between his body and the price of the session opening of the next trading day. The more is such a difference, the more likely this figure will display the maximum price.
Likewise, the big difference between the opening price of the next session and the body of the hammer shows that the hammer is most likely the lowest price.
The engulfing model is represented by two candles of different colors. The size of the shadows shouldn’t be considered.
Within a downward trend, the bullish engulfing indicates an early reversal and vice versa.
In this case, the probability of the reversal increases, if there are the following factors:
- The next bar is much bigger;
- Several candles are engulfed;
- The engulfing after a long trend - long positions have already been opened. Most likely, there will be no new transactions that would support the development of the trend. The engulfing at the end of a new trend means that traders close deals, trying to increase the price quickly.
Dark Cloud Cover
This pattern appears at the top of the uptrend. First, a large white candle emerges. The opening price of the next one is higher than the previous maximum. At the same time, the closing price is close to a minimum, and the former bar is overlapped. Many professionals recommend considering only those cases when more than half overlaps the candle.
This signal is stronger under the following conditions:
- After a long bullish trend, a white candle appears, opening at the lowest price, without a lower shadow. The black one begins at the maximum price, and closes at the minimum;
- There is another bearish candle above the resistance level, following the dark cloud cover.
This pattern is the same as the previous one, but it means a reversal of the bearish trend.
The opening price of the new candle is lower than the previous minimum. The closing price of the session is much higher.
It’s worth noting that, in this case, it’s essential to ensure that more than half blocks the previous candle.
The morning star is a small black candle that follows a large candle. There is a gap between them.
The next bullish candle overlaps the previous, bearish one. Apparently, the bearish trend is ending, and turning in the growth direction.
This figure is similar to the morning star, but indicates the superiority of the bears:
The Doji stars also deserve the special mention. They can have no body at all, due to the same opening and closing prices:
There are a lot of other patterns. Study the candle analysis, and check its effectiveness in practice!
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