On day’s like today, I’m always reminded of my days as the Samurai Stock Trader, where I utilized Japanese Candlestick Patterns to trade a portfolio of stocks for subscribers.
What happened today that’s so critical? First, we were in an uptrend. Second, we started the day with a gap lower. Third, we closed the day higher than the previous day’s trade. That’s a classic “Last Engulfing” Japanese Candlestick Pattern.
Here’s what that looks like:
The great thing about Japanese Candlesticks is that it shows you the emotion of the market through the additional dimension of color. Granted, the above chart is black and white, but most charting systems will utilize white candles for up days and red candles for down days. In the Yin and Yang that encompasses candlesticks – you can get a good feel when you see a sea of red candles.
You see, the market is made up of bulls and bears. Note that this can be the same person and most often is as professional traders don’t care which way the market goes – they just care that 1) it goes and 2) it goes in the direction they predict.
So the set up of a Last Engulfing is a great example of the emotions that traders go through. The market is advancing – so the bulls are confident. The market gaps lower, so the bears are all excited, and position short to trade the downside. The bulls are cautious of a turn lower. Then the Market reverses sharply at the open and trades higher. So there’s a little in it for both the bulls and bears.
What’s it mean for tomorrow? The day following this pattern (and most any Japanese Candlestick Pattern) is key. You’ll want to see follow through. The follow through in this case would be to the downside to support that it in fact is a BEARISH candlesticks pattern.
Let me say that again – the Last Engulfing – as shown in the above image – is a BEARISH pattern and suggests downside ahead.
That being said, not all predicted market action from candlesticks comes to fruition. If they did, we’d all be millionaires. That’s where money management comes in handy. Statistically speaking, if the market is random, and you make 5 trades, generally 2 will go up, 2 will go down and 1 will go no where. So a stop order on your trade (in this case you’d place the stop above the top of the pattern) will ensure you’re positioned to profit and protected (somewhat) from the trade going against you.
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