By Dianne L. Fecteau
Forex traders usually use candlestick charts since the candles are easy to see and understand. While candles should almost never be traded by themselves, there are certain candlestick patterns, that when they occur in conjunction with other technical indicators, can be very powerful clues to a trend reversal.
Two of the most profitable, particularly when combined with support and resistance are the morning and evening star patterns. These patterns require three candles and they’re easy to recognize.
The evening star is a top reversal pattern. The first candle is a long white one. The second is a star. A star is a candle with a small real body which is white or black. In both these patterns the color doesn’t matter.
The star can also be a doji, a candle in which the open and close are the same. The third candle must be black and it must reach deeply into the first white candle’s real body.
In order for this to be an evening star pattern it must occur after an uptrend. The trader would short on the close of the third candle and place their stop just above resistance.
Here’s an example from the Euro Wednesday morning that led to a nice move. I’ve circled the three candles that make up the pattern. Note that the pair was at resistance—that makes this pattern very important. Because it was at resistance, the trader could set a tight stop, risking very little for what has turned out so far to bring 140 pips.
The morning star is also a reversal pattern but it occurs after a downtrend. The first candle is a long black real body. The second candle is one with a small real body. It can also be a doji. The final candle in the pattern is a white real body that extends deeply into the first candle’s body. Here’s an example from Wednesday morning’s USDCHF three-hour chart. Again, there was another powerful indicator in that the pair was at support. The trader would buy on the close of the third candle.
Think about these two examples. These two pairs are usually negatively correlated, trading in opposite directions from each other. Both showed mirror images of the same pattern. The Euro was at resistance and the Swissy was at support. It was additional confirmation that one or both of these trades could be taken with a high probability of success and with low risk because of the ability to set a tight stop. In Forex trading it doesn’t get much better than that.
© Dianne Fecteau, 2009.