Trade Like a Pro With Japanese Candlesticks eBook

TRADE LIKE A PRO WITH JAPANESE CANDLESTICKS HOW TO TRADE WITH CONFIDENCE AND SUCCESSFULLY USING 300-YEAR-OLD TESTED METHOD

Copyright © 2014 by Luca Moschini. All rights reserved. Charts by TC2000 and Worden Brothers, Inc. have been used with permission. Copyright © 1997-2015 TC2000 and Worden Brothers, Inc. All rights reserved. No part of this book may be reproduced in any written, electronic, recording, or photocopying without written permission of the publisher or author. The exception would be in the case of brief quotations embodied in the critical articles or reviews and pages where permission is specifically granted by the publisher or author. For permission requests, write to the publisher or to the author, addressed “Attention: Permissions Coordinator” by visiting the contact page at www.SharperTrades.com. Although every precaution has been taken to verify the accuracy of the information contained herein, the author and publisher assume no responsibility for any errors or omissions. No liability is assumed for damages that may result from the use of information contained within.

"#$%&'( #&)* %&)+,$&-.# All the information shared in this course is provided for educational purposes only . Any trades placed upon reliance of SharperTrades.com are taken at your own risk for your own account. Past performance is no guarantee. While there is great potential for reward trading stocks, commodities, options and forex, there is also substantial risk of loss. All trading operations involve high risks of losing your entire investment. You

must therefore decide your own suitability to trade. Trading results can never be guaranteed . This is not an offer to buy or sell stock, forex, futures, options, commodity interests or any other trading security. SharperTrades.com is not registered as an investment adviser with any federal or state regulatory agency. Rather, SharperTrades.com relies upon the “publisher’s exclusion” from the definition of “investment adviser” as provided under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. To the extent any of the content published on the courses including website pages, videos, written materials, live or recorded events, e-mail transmissions, faxes, recorded voice messages, and any other associated messages/media (hereinafter collectively referred to as “Information”) may be deemed to be investment advice, such information is impersonal and not tailored to the investment needs of any specific person. The information contained within this course, including website pages, videos, written materials, live or recorded events, e-mail transmissions, faxes, recorded voice messages, and any other associated messages/media (hereinafter collectively referred to as “Information”) is provided for information al and educational purposes only . The Information should not be construed as investment / trading advice and is not meant to be a solicitation or recommendation to buy, sell, or hold any securities mentioned.

TABLE OF CONTENTS TRADING RISK DISCLAIMER INTRODUCTION TO JAPANESE CANDLESTICKS SUPPLY AND DEMAND: THE DRIVING FORCE OF THE MARKET EMOTIONS: THE HIDDEN INGREDIENT KNOW YOUR TRADING STYLE Technical Trading and Fundamental Trading Day Trading Swing Trading Investing What Type of Trader Are You? LINE CHARTS, BAR CHARTS AND CANDLESTICK CHARTS Line Chart Bar Chart Candlestick Chart Benefits of Candlestick Charts INVESTING THREE MARKET DIRECTIONS Uptrend List of Long (Bullish) ETFs Downtrend List of Inverse (Bearish) ETFs Sideways Market INTRODUCTION TO REVERSAL PATTERNS What Is a Reversal Pattern? TEN PRIMARY CANDLESTICK REVERSAL PATTERNS CANDLESTICK CHART Benefits of Candlestick Charts DOJI PATTERNS Pattern No. 1 – Doji Star Doji Variation 1.1 – Spinning Top Doji Variation 1.2 – Gravestone Doji Doji Variation 1.3 – Dragonfly Doji HAMMER PATTERNS Pattern No. 2 - Hammer Hammer Variation 1.1 – Hanging Man Hammer Variation 1.2 – Inverted Hammer ENGULFING PATTERNS Pattern No. 3 – Engulfing Bullish Engulfing

Bearish Engulfing HARAMI PATTERNS Pattern No. 4 - Harami Bullish Harami Bearish Harami KICKER PATTERNS Pattern No. 5 - Kicker Bullish Kicker Bearish Kicker PIERCING PATTERNS Pattern No. 6 – Piercing Line Pattern No. 7 – Dark Cloud STAR PATTERNS Pattern No. 8 – Morning Star Pattern No. 9 – Evening Star Pattern No. 10 – Shooting Star CONCLUSION

INTRODUCTION TO JAPANESE CANDLESTICKS This eBook is a compilation of online lessons developed over the course of the years designed to teach individuals visual methods of recognizing, identifying and eventually trading in the market place with success and confidence, using 300-year-old tested methods. The visual methods that we will be focusing on in this eBook are known as Japanese candlesticks. Japanese candlesticks have been used by Japanese rice traders since the 1700s. The father of Japanese candlesticks, Munehisa Homma, a rice trader from Sakata (Japan), developed this method of reading charts that was unique and incredibly successful.

It was so successful that made Homma and those who followed his method, legendarily wealthy. In the 1800s the system was further refined and improved. Three hundred years later, candlestick charts are still used by traders and investors around the world. What are Japanese candlesticks? Japanese candlesticks are the visual illustration of the collective knowledge and decision making of all investors during a specific interval of time. They show us the full picture of all information reflected in the movement of price action as it is developing now. What makes this method so unique and so successful? Candlesticks don’t tell us why price is moving (news releases, earnings reports, etc.,). What they tell us is something much more valuable, which is what is happening in the investors’ sentiment of emotions and decision-making, which drives the price move. Candlesticks reveal a unique type of information that no other indicator does: human emotions. Think of the candlesticks as market psychology indicators.

How well a company is doing in the market place, has little to do with how well an investor can make money in the market. In fact price action is mainly the result of how well a company is perceived to be performing, versus what the real value of the company is. Investors’ emotions are a huge factor in their decision making process. The emotions of fear and greed especially, are major contributors that cause investors to panic then sell at the bottom or be exuberant and buy at the top. Candlestick charts give the visual illustration of the decision making process of major market players and highlights the emotions influencing their decisions. The visual illustration provided by candlestick charts give candlestick traders the ability to see when the overall market sentiment is changing and to quickly act upon that change. By recognizing candlestick signals and reversal patterns, candlestick traders can position themselves on the right side of a trend and profit from a price action influenced by a news report released five or seven days later. Knowledge of candlestick analysis combined with technical analysis (support, resistance, trend channels, moving averages…) give candlestick traders the ability to identify the current market trend, recognize a change in market direction and place trades with greater confidence and greater results.

Also the visual illustration allows candlestick traders to recognize trades that are not working and to get out of them with minor or no losses, before suffering greater losses. Candlestick analysis can be used to trade any kind of trading security (stocks, options, commodities, bonds, currencies…) for both long-term investments (six months, one year, five years) as well as short-term investments (one month, one week, one day). Moreover, candlestick analysis will help candlestick traders and investors to trade and benefit from uptrend markets, known as bullish markets, as well as downtrend markets, known as bearish markets. Japanese candlesticks today, are gaining popularity despite the general assumption that candlesticks were at one time considered unreliable, complicated and cumbersome. The reason for their increase in popularity, is that more educational material about Japanese candlesticks has became available, debunking the issues mentioned. In fact, the trading method of Japanese candlesticks is very simple, extremely reliable and highly effective. It is not a mistake that 300 years later traders around the world are still looking at candlestick charts. There are over 150 candlestick signals and patterns, comprised of primary reversal patterns, secondary reversal patterns, continuation patterns, high performing patterns, etc. This can truly be overwhelming and confusing to anyone interested in learning candlestick analysis (the studies of Japanese candlesticks). Even the most experienced trader can find it confusing. However, more than two thirds of the 150 Japanese candlesticks appear rarely, which means that they are not essential to our learning. That narrows our reach to just over 40 candlestick patterns. The remaining one third (40) have been divided into patterns in the following categories: -

10 Primary Reversal Patterns 10 Secondary Reversal Patterns 10 Continuation Patterns 10 High Performing Patterns

Candlestick analysis is just like learning a language; in order to understand their meaning we have to know, speak and practice their language. This eBook will teach this, with a main focus on the ten primary reversal patterns. Before we dive into the reversal patterns, let’s see what influences stock price action, what styles of trading strategies people are utilizing in today’s market and the types of market conditions we are going trade in.

TAKE ACTION If you are interested in diving deeper into candlestick trading, enroll in one of our online courses. Get serious about your money management and your personal investments by visiting www.sharpertrades.com.

SUPPLY AND DEMAND: THE DRIVING FORCE OF THE MARKET What makes the price of stocks or any other trading security go up and down? Debt, balance sheets, corporate profiles, company earnings, job reports, oil prices, bonds and commodities? No. The answer is simple: supply and demand. Anything else is the effect of supply and demand, the desire of buying or selling. Supply and demand are the foundation of market economy. Supply is the quantity of stock (or trading securities) offered in the market place and represents the sellers. Demand is the quantity of a stock (or trading securities) and represents the buyers. When the price of a stock (or any other trading security) drops to a certain level ($2 in our example) it becomes attractive to the buyers. More buying means more demand, which causes the prices to soar up. As long as the supply can meet the demand, the price will keep going higher. When prices go up due to an increase in demand (more buyers), or decrease of supply (not enough sellers) the market is in an uptrend. This type of market is called bullish market, or bull market. During an uptrend, the bulls (the buyers) are in control.

When a stock or any other trading security reaches a certain level ($11 in our example) it becomes less attractive to the buyers. There is now a reverse situation where those that bought those stocks at $2, $5, $7 (or more) need to sell them. The buyers become sellers, meaning more supply, which causes the price to drop. As long as the supply exceeds the demand, the price will keep going lower. When price goes down due to an increase of supply (more sellers), or a decrease of demand (less buyers), the market is in a downtrend. This type of market is called bearish market, or bear market. During a downtrend, the bears (the sellers) are in control.

After some time of prices moving up and down, the sellers and buyers find some sort of equilibrium that maintain the price within a specific trading range. In the image below, we see the price fluctuating from $4.12 to $4.45 in a time frame of six months. This is also called a sideways market. The price will remain within this trading range until something will disrupt the relative balance between supply and demand, causing the price to drop or soar depending on what buyers and sellers are doing.

Generally, investors and traders shift from being sellers to being buyers and vice versa, depending on many factors: balance sheets, corporate profiles, company earnings, job reports, oil prices, bonds, commodities, etc. Sellers and buyers, supply and demand creates the market. Those factors are simply the cause and effect of supply and demand. Both mindsets are needed when trading in the market. When investors feel optimistic about a company or the general state of the economy, they enter the market with bullish positions (they buy or go long), which starts driving the price up. When they feel pessimistic about a company or the general state of the economy, they enter the market with bearish positions (they sell or go short), which starts driving the price down.

Successful trading is being able to shift in and out of these mindsets depending on the general perception of the market.


EMOTIONS: THE HIDDEN INGREDIENT The equation of demand and supply, the battle between bulls and bears, is what creates the market. When the bulls are in control, demand and consequentially price, increases. When the bears are in control, supply and consequentially price, decreases. Even though the market equations are made of the two element of supply and demand, there is an additional ingredient that has an even greater influence: investors’ perception and emotions. It almost does not matter how well a company is performing (no debt, balance sheet, strong past earnings…). What matters the most is the investors’ perception of how strong or weak the market is, how well a company does or not. If a company is perceived to be doing well, investors want to own shares of that company, so they buy shares and the price goes up. If a company has good fundamentals but investors perceive that they can make higher profits somewhere else, they will sell the company shares causing the price to drop. Below is the monthly chart of Apple (symbol: AAPL) from 2010 to 2014. Each candle represents one month. Apple is an excellent company and yet in the period between October 2012 and May 2013 (8 months) the price of their shares dropped almost 50% from $100 to just above $50. If you owned AAPL shares during that period of time, what would you have done? Perhaps you would be thinking AAPL is great company. “I m going to hold onto my AAPL shares”, thinking the price is going to go back up again. One month passes (15%), two months pass (-30%), four months… The shares have now lost 40% of their value.

What are you going to do? Are you buying more shares to compensate your losses? What if the price keeps going down for another four months? (By the way it does.) Is the pain of losing more money so great that you can’t take it anymore? Are you going to sell all your AAPL stocks?

This is exactly what emotions do when dealing with market trends and market reversals. A price that goes up must come down. A price that goes down must come up. Supply and demand are the obvious elements of the market equation. Emotions are the hidden one. Finding that hidden element is the key to successful trading. The same is true with regard to the general market direction. If job reports are strong, earning season is promising positive returns, sales are increasing, the overall investors’ perception of the state of the market is optimistic. As a result they will buy and invest driving the prices up. On the other hand, if their perception is more pessimistic, because of poor job reports and other weak economic signs, investors would be more inclined to sell driving the prices down. The investors’ perception and their optimistic or a pessimistic view of market conditions, stock or any other trading security, is referred to as investors’ sentiment of emotions and decision-making. Investors’ sentiment and more specifically the emotion of fear and greed are the most important elements of the market equation. Supply and demand are two elements of the market equation that can be analyzed using many of the indicators available today: time and sale windows, size of the orders, orders filled, orders waiting to be filled, Level 2, Total View, levels of support and resistance, stochastic, RSI… What indicators or piece of technology are going to be used to determine the dominating investors’ sentiment of emotions and decision-making during a specific period of time? The answer is candlestick patterns and signals. Homma, the father of Japanese candlesticks, discovered the importance of emotions and their influence in investor’s decision-making. He knew that the movement of price action was not the reflection of supply and demand, but especially that price was greatly influenced by the emotions of fear and greed that every trade experiences. Homma understood that when emotions are part of the trading equation, the difference between the price that people are willing to pay and the true value of what has been sold could be quite significant. He studied the market, identified the effects that emotions had on price actions and develop candlestick analysis.

The above charts are the same monthly AAPL charts that we discussed earlier. The chart on the left is a bar chart. The chart on the right is a candlestick chart.

If you knew candlesticks you would have noticed the appearance in October of the Shooting Star, a candlestick bearish reversal pattern indicating that the market or stock trend is about to change direction. In November, a big red candle appeared indicating that the market sentiment in regard to AAPL has turned pessimistic (or bearish). As the first red candle was forming, (please remember that it took one month to make that kind of candle) you would have had plenty of time to get out of AAPL and hopefully have made a decent profit, or at least preserved your capital. Japanese candlesticks show exactly when investors’ sentiment of emotions and decision-making have changed and give us a very clear and distinct signal of when to get into a trade and when to get out of a trade. Very simple and very effective.


KNOW YOUR TRADING STYLE There are several different styles of trading: day trading, momentum trading, scalping, swing trading, position trading and investing. They all follow different strategies and have a different approach to the market. However, they have one common goal and that is to profit from price movement. Basically all traders and investors are fully or partially influenced by two schools of thought: technical trading and fundamental trading.

TECHNICAL TRADING AND FUNDAMENTAL TRADING 1. Technical Trading Technical trading, often referred to as technical analysis, is based on chart observation, horizontal and diagonal line drawing, trend channels and an unlimited number of indicators. Day trading, swing trading and position trading fall under the umbrella of technical trading.

2. Fundamental Trading Fundamental trading, often referred to as fundamental, analysis is based on the observation of cash flow statements, balance sheets, price to earning ration (P/E), earnings per share (EPS), price per book (P/B), return on equity (ROE), return on investment (ROI) and many other fundamental tools. Basically the fundamental traders, or analysts, analyze the intrinsic value of a company and compares the intrinsic value with the stock price value in the market. If the company is overvalued they sell their stocks. If the company is undervalued they buy their stocks. Investing falls under the umbrella of fundamental trading.

DAY TRADING There are three different types of day traders: traditional day traders, momentum traders, and scalpers.

1. Day Trader Day traders are individuals that do not hold positions open overnight. Day trading involves quick intraday buying and selling, where the traders hold the stock oftentimes for less than an hour. Most day trades are even quicker than that, holding open positions for less than 10 minutes.

2. Momentum Trader Momentum traders are individuals that get on board and try to profit from stocks moving as a result of high trading volume. Most of momentum traders hold their positions for less than a day.

3. Scalper Scalpers are individuals that get in and out of a stock (or a group of stocks) multiple times during the course of the day. Scalpers are basically micro mirroring what market makers do.

Pros and Cons of Day Trading The positive aspect about day trading is that traders are not affected by negative news or earning reports released during the premarket or after the market closes. One negative aspect about day trading is that the difference between the bid price (the price buyers are willing to pay for a stock) and the ask price (the price sellers are willing to sell a stock for) needs to be kept relatively small. The difference between the bid price and the ask price is known as bid-ask spread. Too big of a spread can be very costly for day traders. Every time you place a trade, the broker firm charges a trading commission. Usually the charge appears twice: the first time is when getting into a trade and the second time is when exiting that trade. Because day traders enter and exit several positions during the course of the week, they get charged many times more than compared to swing traders that place one trade and hold that same trade for five or ten days. Commissions can be very costly for day traders. Momentum and scalping trading have very similar pros and cons of day trading activities. Scalping also has much higher costs. Day trading requires a lot of experience, great trading skills, quick responses to market movements and strong nerves. Day trading is for expert traders only.

SWING TRADING 1. Swing Trader Swing traders are individuals that profit from stock price movements occurring over a fairly short period of time. They buy stocks and hold them anywhere between two days and three weeks. Swing traders rarely open and close a position the same day.

2. Position Trader Positions traders are individuals with the goal of profiting from a stock price moving in a steady trend over a certain period of time. They buy stocks and hold them anywhere from one month to a year.

Pros and Cons of Swing Trading The negative aspect of swing trading is that by holding stocks overnight they are subject to news releases reported during the premarket or after the market closes. Sometimes the news is positive, making the stock jump overnight. Other times the news is negative, making the stock drop overnight. The beauty of candlesticks is that they incorporate all the information and decision making occurring during a specific period of time. Before a positive or a negative news is released, insiders and other smart money investors are aware of what is about to happen in that particular stock and they position themselves accordingly. They buy larger positions if the stock is about to skyrocket; they sell their positions if the stock is about to crash. These types of before-it-happens trading activities are perfectly recorded in the candlestick patterns. By seeing what smart money is doing, traders can mirror their behavior and positions themselves accordingly. One of the many positive aspects of swing trading is that of having time to study the price movements, the price corrections, and the market trend, and to be properly positioned before bigger price movements occur. Because swing traders enter and exit fewer positions in a week, they get charged less frequently than day traders or scalpers. Therefore, commissions are simply the cost for doing business and do not represent a huge expense that exist for day traders and scalpers. Please keep in mind that all trading involves risks. Therefore it is important to learn the system very well, develop good trading skills and trading strategies, and practice many hours at a trading simulator, before investing your own money. In order to be a good swing trader you do not need to be an expert trader. All you need is patience, mindfulness, good money management and a lot of trading practice.

INVESTING Investors are individuals that purchase trading securities and hold onto them for longer period of time. Their goal is to gradually build wealth by buying and holding bonds, mutual funds, stocks and reinvested dividends.

They pay close attention to market fundamentals, such as price to earning ration (P/E), earnings per share (EPS), return on equity (ROE), projected earning growth (PEG), price to sale (P/S), price to book (P/B), book value and dividend payout ratio.

Pros and Cons of Investing The positive aspect of investing is that in the long run investors can build a large and wealthy portfolio. The negative aspect of investing is that stock prices can be influenced by news releases, earning reports, market corrections and market reversals that occur over a long period of time. The other negative aspect of investing is that the capital is going to be looked into a specific trading security for longer periods of time. In order to be a good investor you need to have a strong understanding of fundamental analysis, and as it true for all types of trading, a lot of practice and experience.

W HAT TYPE OF TRADER ARE YOU ? This is an important aspect to understand and develop, because it will help you decide the kind of strategies you are going to use when approaching the market. If you had experience with trading, you might already know what type of trader you are. If you do not have experience with trading, you might want to experiment with each of the above strategies and see which one you relate to the most. Ultimately, you would want to find our own niche and trading strategy that matches our personality, knowledge, resistance to stress and trading skills. As you build your practice and experience, with time you will find out the type of trader you are. My own trading practice is focused on swing trading and my courses are based on swing trading activities. However, the information you will receive can be used in all circumstances. Whether you are a swing trader, a day trader, a scalper or an investor, you can benefit from the information you will receive from this eBook. TAKE ACTION If you are interested in diving deeper into candlestick trading, enroll in one of our online courses. Get serious about your money management and your personal investments by visiting www.sharpertrades.com.

LINE CHARTS, BAR CHARTS AND CANDLESTICK CHARTS There are three main types of charts used to analyze market trends and stock values: line charts, bar charts and candlestick charts.

LINE CHART

Line charts are the most basic and the most common charts used by everyday people. Examples of line charts are electric and gas usage bills as well as phone minute usage bills, etc. In trading, the line chart displays a series of points, representing the closing price of a specific time frame (5 minute, 10 minutes, 30 minutes, 1 day, 1 week…). Drawing a line to connect the points form the line chart. Although the line chart is useful to visually recognize the general price trend, the information provided by the line chart is limited. It only gives the investor one price value, the closing price, and leaves out three other important prices: opening price, high price, low price and closing price.

BAR CHART

The bar chart is the most commonly used chart by traders and investors around the world. It displays a series of vertical lines and horizontal dashes. Drawing a vertical line

that connects the high price with the low price, and two horizontal dashes one on the left for the opening price and one the right for the closing price, forms the bar chart.

POSITIVE TRADING DAY

NEGATIVE TRADING DAY

The top of the vertical line represents the high price of a specific time frame; the bottom of the vertical line represents the low price of a specific time frame; the left horizontal dash represents the opening price of a specific time frame; the right horizontal dash represents the closing price of a specific time frame. The four important price values are displayed, which makes bar charts very useful for trading.

CANDLESTICK CHART

Traders and investors less commonly use candlestick charts because they are considered to be more complicated and cumbersome than bar charts. There are more than 150 candlestick signals and patterns showing a level of complexity and sophistication that most traders do not consider worth learning. However, candlestick charts are gaining popularity as educational material on the topic is becoming increasingly available. Education is power.

Candlestick charts are similar to the bar charts as they both display the complete trading range by showing the four important price values: open, high, low, close (OHLC). Bar Chart

Candlestick Chart


NEGATIVE TRADING DAY The main difference is in the body of the chart. After drawing the vertical line to connect the high and the low, just like in the bar chart, and connecting the horizontal dashes, both on the left and on the right, a box is formed. The box is called the body of the candle. The vertical line appearing above the body is called upper shadow. The vertical line appearing below the body is called lower shadow. The body and the shadows form what we call candlestick chart (or candle).

If the closing price is higher than the opening price, the color of the candle is green. If the closing price is lower than the opening price, the color of the candle is red.


NEGATIVE TRADING DAY

The size and the color of the body, and the length of the shadows reveal very important information regarding the current market direction, possible market reversals and the strength of future price movements. Candlestick charts can be used as a tool to benefit from reversal patterns and continuation patterns during bullish markets (uptrends) as well as bearish markets (downtrends). We will discuss in greater detail the importance of such information in following chapters.

BENEFITS OF CANDLESTICK CHARTS The visual illustration of candlestick charts gives investors and traders an advantage over traditional western methods of trading.

First of all candlestick charts provide a quick and visual representation of price action occurring during several time frames that can help investors identify more easily the end of a downtrend and the beginning of an uptrend. A series of green ascending candles can be easily identified as an upward trend. A series of red candles can be easily identified as a downward trend. For example, the appearance of a green candle after a series of red descending candles can catch one’s attention more easily compared to looking at a bar chart. Bar Chart Candlestick Chart

This allows candlestick investors and traders to identify the formation of reversal patterns and to position themselves on the correct side of a trend. Secondly the visual illustration provided by the candlestick chart gives candlestick traders the confidence necessary to get into trades before bigger movements occur and to get out of trades when it is time to take profits before normal price retracements. Thirdly candlestick analysis helps create visual and effective trading strategies for identifying profit targets and protective stops. When applied with discipline, candlestick analysis helps remove normal but dangerous emotions arising from the trading experience. This allows candlestick investors and traders to successfully trade the market with confidence and clarity of mind. This translates in the ability to buying at the bottom and selling at the top, increasing the probabilities of greater gains and reducing probabilities of bigger losses. While the methods of candlestick trading can be taught, the experience of trading itself cannot. Deeper studies of candlestick trading methods, combined with mindfulness, cultivation of patience and a lot of practice on trading simulators are essential ingredients to successful trading. Candlestick analysis and trading methods create a safe and strong framework for training the eyes as well as the mind, to help establish the foundation of good trading.


THREE MARKET DIRECTIONS The market can be moving in three directions: uptrend, downtrend and sideways.

UPTREND An uptrend market is defined by the price of stocks, commodities or any other trading security, moving in a general upward direction. The trend is often marked by price making higher highs (HH) and higher lows (HL). The bulls, the buyers, are in control.

Uptrend market, or bullish market, is influenced by the emotion of greed and excitement. During an uptrend market, traders and investors buy exuberantly pushing the price up. This is the kind of market environment where people make the most money. When faced with this type of market environment, the best thing to do is to buy. In trading terms buying is referred to as “going long”, or “initiating long positions”. There are two main trading strategies that can be used during an uptrend: 1. Initiating Long Positions 2. Buying Long ETFs

1. Initiating long positions During an uptrend, the best time to buy is when the market has just started moving up. If we miss the first wave of rising price, it is not too late to buy. If the wave has just started and the price is still reasonably low, it is a great time to buy. If the price has moved up a bit too much, wait for the pullback. What is a pullback? Basically a price that goes up, then it must come down. Therefore after a few days of an uptrend, the market starts selling slightly. This is called a pullback.

The general pullback can last anywhere between two days and a week or two at the most. Longer pullbacks (two or three months) are also possible, however I consider those types of pullbacks short-term downtrends. During a pullback is when people lose money. They have been sitting and watching the market go up for three or four days and just when they make the decision to buy, the price starts moving down. For the next couple of days they watch their position lose money, they get afraid of possibly losing more money and they sell. A few days later the price starts moving up again. Now they are watching the price go up without them and they feel frustrated. Patience is required while waiting for the small pullback to finish.

When the bulls steep in and start driving the price up once again, indicating that the pullback is over, it is time to get on board with them and buy, or go long. 2. Buying Long ETFs Another way to go long during an uptrend is to buy long exchange-traded funds (ETFs), also known as directional ETFs or bull ETFs. Long ETFs are mutual funds that can be bought like individual stocks in the open market. This type of trading security is bought when the market sentiment is turning positive and the market indexes such as Dow Jones, Nasdaq, S&P 500 start moving up. Long ETFs are an easier way to trade the market compared to finding individual stocks and initiating long positions.

Long ETFs can be used to hedge your portfolio focusing on specific uptrend market indexes (Dow Jones, Nasdaq, S&P 500, etc…) as well as on upward trend sectors (energy sector, healthcare sector, financial sector…).


LIST OF LONG (B ULLISH ) ETF S Below is a list of US, international and sector long ETFs, which includes Long (1x), Ultra (2x) and Ultra Pro (3x). The Long (1x) are the most basic bullish ETFs that perform very much like their benchmark indices. The Ultra (2x), Ultra Pro (3x), Direxion (2x) and Direxion (3x) EFTs uses high leverage: •

•

The Ultra (2x) and the Direxion (2x) perform and produce twice as much gain/loss compared to their benchmark indices The Ultra Pro (3x) and the Direxion (3) perform and produce three times as much gain/loss compared to their benchmark indices.

Please keep in mind that the Ultra (2x) and Ultra Pro (3x) and Direxion (2x) and (3x) ETFs should only be traded intraday. In other words, do not hold the position overnight.

US Style ETFs - Long (1x) Name

Ticker Symbol

Benchmark Index

Long Nasdaq100

NDX

NASDAQ-100

PowerShares QQQ

QQQ

NASDAQ 100

Long Dow30

DIA

Dow Jones Industrial Average

Long S&P500

SPY

S&P 500

Long Russell 1000

IWM

Russell 1000

Market Cap ETFs - Ultra (2x) Name

Ticker Symbol

Benchmark Index

Ultra QQQ

QLD

NASDAQ-100

Ultra Dow30

DDM

Ultra S&P500

SSO

S&P 500

Ultra MidCap400

MVV

S&P MidCap 400

Ultra SmallCap600

SAA

S&P SmallCap 600

Ultra Russell2000

UWM

Ultra Russell3000

UWC


Russell 2000 Russell 3000 Index

Market Cap ETFs - Ultra Pro (3x) Name

Ticker Symbol

Benchmark Index

Ultra Pro QQQ

TQQQ

NASDAQ-100

Ultra Pro Dow30

UDOW

Ultra Pro S&P500

UPRO

S&P 500

Ultra Pro MidCap400

UMDD

S&P MidCap 400

Ultra Pro Russell2000

URTY


Russell 2000

Direxion (3x) Market Cap ETFs Name

Ticker Symbol

Benchmark Index

Daily Large Cap Bull 3x

BGU

Russell 1000

Daily Mid Cap Bull 3x

MWJ

Russell Midcap

Daily Small Cap Bull 3x

TNA

Russell 2000

Long (1x) Sector US Market Sector

Ticker Symbol

Benchmark Index

Basic Materials

XLB

S&P Materials Select Sector

Energy

XLE

S&P Energy Select Sector

Financial

XLF

Industrial

XLI

S&P Industrial Select Sector

Technology

XLK

S&P Technology Select Sector

Consumer Staples

XLP

S&P Consumer Staples Select Sector

Utilities

XLK

S&P Utilities Select Sector

Consumer Discretionary

XLY

S&P Consumer Discretionary Select Sector

Health Care

XLV

S&P Financial Select Sector

S&P Health Care Select Sector

Ultra (2x) Sector ETFs Sector

Ticker Symbol

Benchmark Index

Basic Materials

UYM

Dow Jones U.S. Basic Materials

Consumer Goods

UGE

Dow Jones U.S. Consumer Goods

Consumer Services

UCC

Dow Jones U.S. Consumer Services

Financials

UYG

Dow Jones U.S. Financials

Health Care

RXL

Dow Jones U.S. Health Care

Industrials

UXI

Dow Jones U.S. Industrials

KBW Regional Banking

KRU

KBW Regional Banking

Nasdaq Biotechnology

BIB

NASDAQ Biotechnology

Oil & Gas

DIG

Dow Jones U.S. Oil & Gas

Real Estate

URE

Dow Jones U.S. Real Estate

Semiconductors

USD

Dow Jones U.S. Semiconductors

Technology

ROM

Dow Jones U.S. Technology

Telecommunications

LTL

Dow Jones U.S. Select Telecommunications

Utilities

UPW

Dow Jones U.S. Utilities

Sector

Ticker Symbol

Benchmark Index

Daily Gold Miners Bull 2x

NUGT

NYSE Arca Gold Miners

Daily Natural Gas Related Bull 2x

GASL

ISE Revere Natural Gas

Daily Retail Bull 2x

RETL

Direxion (2x) Sector ETFs

Russell 1000 Retail

Direxion (3x) Sector ETFs Sector

Ticker Symbol

Daily Agribusiness Bull 3x

COWL

Benchmark Index

DAX Global Agribusiness

Daily Basic Materials Bull 3x

MATL

ISE Revere Natural Gas

Daily Retail Bull 2x

RETL

S&P Materials Select Sector

Daily Energy Bull 3x

ERX

Daily Financial Bull 3x

FAS

Daily Healthcare Bull 3x

CURE

Daily Real Estate Bull 3x

DRN

MSCI US REIT

Daily Semiconductor Bull 3x

SOXL

PHLX Semiconductor Sector

Daily Technology Bull 3x

TYH

Russell 1000 Technology

Russell 1000 Energy Russell 1000 Financial Services S&P Health Care Select Sector

Ultra (2x) Internation al ETFs Name

Ticker Symbol

Benchmark Index

Ultra FTSE China 25

XPP

Ultra MSCI Brazil

UBR

MSCI Brazil

Ultra MSCI EAFE

EFO

MSCI EAFE

Ultra MSCI Emerging Markets

EET

Ultra MSCI Europe

UPV

MSCI Europe

Ultra MSCI Japan

EZJ

MSCI Japan

Ultra MSCI Mexico

UMX

MSCI Mexico Investable Market

UXJ

MSCI Pacific ex Japan

FTSE China 25

MSCI Emerging Markets

Investable Market Ultra MSCI Pacific ex Japan

Direxion (2x) International ETFs Name

Ticker Symbol

Daily BRIC Bull 2x

BRIL

Daily India Bull 2x

INDL

Benchmark Index

BNY Mellon BRIC Select ADR Indus India

Direxion (3x) International ETFs Name

Ticker Symbol

Benchmark Index

Daily China Bull 3x

YNN

Daily Developed Markets Bull 3x

DZK

Daily Emerging Markets Bull 3x

EDC

MSCI Emerging Markets Index

Daily Latin America Bull 3x

LBJ

S&P Latin America 40

Daily Russia Bull 3x

RUSL

DAX Global Russia

BNY Mellon China Select ADR MSCI EAFE


DOWNTREND A downtrend market is defined by the price of stocks, commodities or any other trading security, moving in a general downward direction. The trend is often marked by price making lower lows and lower highs. The bears, the sellers, are in control.

Downtrend market, or bearish market, is influenced by the emotion of fear and worries. During a downtrend market, traders and investors panic and sell pushing the price down. This is the kind of market environment where people lose the most money. In trading terms selling is referred to as “going short”, or “initiating short positions”. There are three main trading strategies used during a downtrend: 1. Profit taking 2. Initiating Short Positions 3. Buying Inverse ETFs

1 – Profit taking During a downtrend, if buyers want to sell the security they owe, they must sell as soon as the downtrend is starting. The longer they wait, the bigger the loss. If the wave has just started and the price is still reasonably high, it is still a good time to sell. Don’t wait any longer hoping that the market will recover. The best way to do this is to set up protective stops. If protective stops have not been set up, or if waiting too long and the price has moved down a bit too much, then wait for a pullback. When the pullback occurs, buy a few more shares to compensate your losses, and then close (or sell) your position before the next downward wave occurs. In the case of a downtrend, the pullback is when a price that goes down, must come up. In fact after a few days of a downtrend, the market starts buying back slightly. This is called a bear pullback. The bear pullback can last anywhere between two days and a week. Longer pullbacks (two or three months) are also possible, however, I consider those types of pullbacks short-term uptrends.

During a pullback is when people lose money. Let’s say that they owe shares of a stock. They have been sitting and watching their position lose money as the market has been going down for three or four days. Just when they make the decision to sell, the price starts moving up. For the next couple of days they watch price moving up, so they buy back. But because they are in a downtrend, a few days later the price starts moving down again. Now they are watching their position lose money again as the price continues move down. They lose money in their portfolio, they lose confidence their trading strategies and it is a very frustrating and scary scenario.

The key trading strategy with the downtrend scenario is to set up protective stops. When faced with this type of market environment, the best thing to do is to sell the stocks you owe. This is called profit taking. When the price was moving up, you bought a trading security three, five, seven days ago and now that the price is moving down, you sell and make your profit. Or you did not make money on the trade, but still sell, before bigger losses occur.

2 – Initiating Short Positions If you do not owe a stock, or other trading securities, and would like to benefit from a downtrend market, you can go short. What that means is that you can borrow shares of a stock or other trading securities from a broker and you sell them in the market with the expectation that the price will move down. Even though you can make money with short positions, you can also lose more money than you would have anticipated. As a result, there are specific requirements (margin account) that traders need to meet before being

able to initiate short positions. Please check with your own broker. This type of trading involves more risks than regular trading because you can lose more money than your entire capital. Going short is for expert traders only. If you are a seller who wants to profit from a downtrend, the best time to go short is when the market has just started moving down. If you miss the first wave of a dropping price, it is not too late to go short. If the wave has just started and the price is still relatively high, it is a great time to go short. If the price has moved down a bit too much, then wait for the bear pullback. Patience is required while waiting for the small bear pullback to finish. When the bears steep in and start driving the price down once again, indicating that the bear pullback is over, it is time to get on board with them and go short.

3 – Buying Inverse ETFs A less risky way to go short during a downtrend is to buy inverse exchange-traded funds (ETFs), also known as short ETFs or bear ETFs. Inverse ETFs are mutual funds that can be bought like individual stocks without the requirement of holding a margin account, and therefore limiting the risk exposure. This type of trading security is bought when the market sentiment turns negative and the market indexes such as Nasdaq, Russel 2000, S&P 500 start moving down. Even though the general market trend is downward and the prices are moving down, when looking at the chart of an inverse ETF, the general trend is moving upward as the prices are also moving up. That is why this type of trading security is called inverse. Once you understand how they work, they are much easier to use than going short with individual stocks. Inverse ETFs can be used to hedge our portfolio against drops in market value, as well as to focus on specific downward trend sectors (energy sector, healthcare sector, financial sector…).


LIST OF INVERSE (B EARISH ) ETF S Below is a list of US, international and sector inverse ETFs, which includes Short (1x), Ultra Short (2x) and Ultra Pro Short (3x). Short (1x) are the most basic bearish ETFs that mirror exactly the performance of their bullish counterparts. Short (1x) can be traded intraday (day trading) and also held overnight (swing trading). The Ultra Short (2x), Ultra Pro Short (3x), Direxion (2x) and Direxion (3x) EFTs use high leverage: •

•

The Ultra Short (2x) and the Direxion (2x) perform and produce twice as much gain/loss compared to their bullish counterparts. The Pro Short (3x) and the Direxion (3x) perform and produce three times as much gain/loss compared to their bullish counterparts.

Please keep in mind that the Ultra Short (2x) and Ultra Pro Short (3x) and Direxion (2x) and (3x) ETFs should only be traded intraday. In other words, do not hold the position overnight.

Short (1x) US Style ETFs Name

Ticker Symbol

Benchmark Index

Short QQQ

PSQ

Nasdaq-100

Short Dow 30

DOG

DJIA

Short S&P 500

SH

S&P 500

Short (1x) Market Cap ETFs Name

Ticker Symbol

Benchmark Index

Short Mid Cap 400

MYY

S&P Mid Cap 400

Short Small Cap 600

SBB

S&P Small Cap 600

Short Russell 2000

RWM

Russell 2000

Ultra Short (2x) US Style ETFs Ultra Short QQQ

QID

Nasdaq-100

Ultra Short Dow 30

DXD

DJIA

Ultra Short S&P 500

SDS

S&P 500

Ultra Short (2x) Market Cap ETFs Ultra Short Mid Cap 400

MZZ

S&P Mid Cap 400

Ultra Short Small Cap 600

SDD

S&P Small Cap 600

Ultra Short Russell 2000

TWM

Russell 2000

Ultra Pro Short (3x) US Style ETFs Ultra Pro Short QQQ

SQQQ

Nasdaq-100

Ultra Pro Short Dow 30

SDOW

DJIA

Ultra Pro Short S&P 500

SPXU

S&P 500

Ultra Pro Short Russell 2000 SRTY

Russell 2000

Ultra Pro Short (3x) Market Cap ETFs Name

Ticker Symbol

Ultra Pro Short Mid Cap 400 SMDD

Benchmark Index

S&P Mid Cap 400

Ultra Short (2x) Sector ETFs Sector

Ticker Symbol

Benchmark Index

Ultra Short Basic Materials

SMN

Dow Jones U.S. Basic Materials

Ultra Short Consumer Goods

SZK

Dow Jones U.S. Consumer Goods

Ultra Short Consumer Services

SCC

Dow Jones U.S. Consumer Services

Ultra Short Financials

SKF

Dow Jones U.S. Financials

Ultra Short Health Care

RXD

Dow Jones U.S. Health Care

Ultra Short Industrials

SIJ

Dow Jones U.S. Industrials

Ultra Short Real Estate

SRS

Dow Jones U.S. Real Estate

Ultra Short Semiconductors

SSG

Dow Jones U.S. Semiconductors

Ultra Short Oil & Gas

DUG

Dow Jones U.S. Oil & Gas

Ultra Short Technology

REW

Dow Jones U.S. Technology

Ultra Short Utilities

SDP

Dow Jones U.S. Utilities

Sector

Ticker Symbol

Benchmark Index

Direxion Russell 1000 Energy Bearish 3x

BGZ

Russell 1000 Energy Bearish 3x

Direxion Russell 1000 Financials 3x

FAZ

Russell 1000 Financials Bearish 3x

Direxion (3x) Sector ETFs

Short (1x) Internationa l ETFs Name

Ticker Symbol

Benchmark Index

Short MSCI EAFE

EFZ

MSCI EAFE

Short MSCI Emerging Markets

EUM


Ultra Short (2x)

Internationa l ETFs

Name

Ticker Symbol

Benchmark Index

Ultra Short MSCI EAFE

EFZ

MSCI EAFE

Ultra Short MSCI Emerging Markets

EEV


Ultra Short MSCI Japan

EWV

MSCI Japan

Ultra Short FTSE/Xinhua China 25

FXP

FTSE/Xinhua China 25

Name

Ticker Symbol

Benchmark Index

Daily Brazil Bear 3x

BRZS

MSCI Brazil 25-50 Index

Direxion (3x) ETFs

Daily FTSE China Bear 3x

YANG

FTSE China 25 Index

Daily FTSE Europe Bear 3x

EURZ

FTSE Developed Europe Index

Daily Developed Markets Bear 3x

DPK

MSCI EAFE Index

Daily Emerging Markets Bear 3x EDZ

MSCI Emerging Markets Index

Daily Russia Bear 3x

RUSS

Market Vectors Russia Index

Daily Japan Bear 3x

JPNS

MSCI Daily TR Net Japan USD Index

Daily South Korea Bear 3x

KORZ

MSCI Korea 25-50 Index


SIDEWAYS MARKET A sideways market is defined by the price of stocks, commodities or any other trading security, fluctuating between a narrow range of highs and lows. Neither the bears nor the bulls are in control of the price. It is very difficult to make money during a sideways market.

Sideways market is the kind of market where people can more easily lose money, patience and ultimately confidence in their trading skills. It can be very detrimental to your capital as well as your self-esteem. When faced with this type of market environment, the best thing to do is to sit on our cash and watch. In other words, do limited trading activity or do not trade at all.


INTRODUCTION TO REVERSAL PATTERNS W HAT IS A REVERSAL PATTERN ? A reversal pattern is a price trend change in market direction. A reversal occurs when the overall price trend of a stock or market value changes direction. A reversal can be bullish or bearish, meaning uptrend or downtrend. A series of lower lows and lower highs indicate a price movement characteristic of a downtrend. When the price trend begins an upward movement making higher highs and higher lows, it marks the beginning of a reversal. This change of direction is known as bullish reversal. During a bullish reversal, the price trend changes from a downtrend to an uptrend. On the other hand, a series of higher highs and higher lows indicate a price movement characteristic of an uptrend. When the current uptrend reverses direction and the price begins making lower lows and lower highs, we call this change of direction bearish reversal. During a bearish reversal, the price trend changes direction from an uptrend to a downtrend. Being able to identify a bullish reversal pattern as it is developing, allows candlestick traders and investors to buy and position themselves on the right side of the trend, just before buying pressure and volume activity increases causing the price to rise. Recognizing the formation of a bearish reversal pattern after a big price movement allows candlestick investors and traders to sell their position and to take profits before the selling pressure increases causing the price to drop. Please keep in mind that trading is not about buying at the lowest price and selling at the highest price. That’s pretty much impossible. Our job as traders is to catch the movement in between. All traders are trying to do, is notice the reversal during its formation phase. Their job is to pull the trigger, meaning initiating a long position after the stock has printed a bullish reversal pattern and getting out or initiating a short position after the stock has printed a bearish reversal pattern. TAKE ACTION If you are interested in diving deeper into candlestick trading, enroll in one of our online courses. Get serious about your money management and your personal investments by visiting www.sharpertrades.com.

TEN PRIMARY CANDLESTICK REVERSAL PATTERNS Candlestick reversal patterns are very important trading formations as they provide opportunities for bigger profits ahead. Candlesticks formation shows very clearly when the reversal patterns are forming. Years of back testing (supported by 300 years of history), shows that at the beginning of every reversal movement, certain types of candlestick patterns are formed. These patterns are called candlestick reversal patterns. Candlestick reversal patterns are powerful signals that indicate that the previous trend has stopped and a new trend moving in the opposite direction has begun. In the following chapters we are going to learn the following ten primary reversal patterns: 1. 2. 3. 4. 5. 6.

Doji and its variations (Spinning Top, Dragonfly, Gravestone) Hammer and its variations (Inverted Hammer, Hanging Man) Engulfing (Bullish and Bearish) Harami (Bullish and Bearish) Kicker (Bullish and Bearish) Piercing Line

7. Dark Cloud 8. Morning Star 9. Evening Star 10. Shooting Star


DOJI PATTERNS PATTERN NO. 1 – DOJI STAR

The doji star is formed when the opening price (O) and the closing price (C) are equal or occur nearby the same level. Basically the doji star formation looks like a cross. The horizontal line represents the open and close; the vertical line represents the trading range of that specific time frame. The doji star formation is a neutral pattern and it indicates indecision. Neither the bulls, nor the bears have control over the price. When the doji star appears, there is an equal match between supply and demand; a trend reversal might be in sight. If one doji star indicates indecision, a series of doji stars indicates more indecision. Always pay attention when doji stars appear. They can be the precursors to strong trend reversals.

How to Trade the Doji Star Because doji stars indicate indecision, any bearish or bullish reversal requires further confirmation. What that means is that if after a doji star, or a series of doji stars the price opens higher than the previous day close, there are high probabilities that the price will start trading up. In this scenario, the bulls (the buyers) have made the decision to take the price up and the bears (the sellers) have lost momentum. We are now experiencing a bullish reversal pattern. If the doji star appears at the bottom of a downtrend and possibly in oversold conditions, get ready to buy, or to go long. On the other hand, if after a doji star, or a series of doji stars, the price opens lower than the previous day close, there are high probabilities that the price will start trading down. In this scenario, the bears (the sellers) have made the decision to take the price down

and the bulls (the buyers) have lost momentum. We are now experiencing a bearish reversal pattern. If the doji star appears at the top of an uptrend and possibly in overbought conditions, get ready to sell, or to go short. The general rule for the doji star pattern is that after a doji star, or a series of doji stars, the trend will generally move in the direction at which the market opens the next day. The doji star is a great contributor to any candlestick pattern and a very valuable signal.

DOJI VARIATION 1.1 – SPINNING TOP

The spinning top pattern is essentially a doji star formation with a slightly bigger body. The spinning top pattern is formed when the opening price (O) and the closing price (C) occur near similar values. If the closing price is higher than the opening price, the color of the candle is green. If the closing price is lower than the opening price, the color of the candle is red.

The color of the candle has no real significance with the spinning top. Just like the doji, the spinning top indicates indecision between the bulls and the bears. Any bearish or bullish trend reversal requires future confirmation.

How to Trade the Doji Star The trading criteria for the spinning top are the same as the doji star. When the spinning top appears at the bottom of a trend it indicates that the downtrend is about to reverse direction. If the spinning top appears at the bottom of a downtrend and possibly in oversold conditions, get ready to buy, or to go long. On the other hand, when the spinning top appears at the top of a trend it indicates that the uptrend is about to reverse direction. If the spinning top appears at the end of an uptrend, and possibly in overbought conditions, get ready to sell, or short. The general rule for the doji star pattern and its variations is that after a doji star, or spinning top in this case, the trend will generally move in the direction at which the market opens the next day.

DOJI VARIATION 1.2 – GRAVESTONE DOJI

The gravestone doji star is formed when the opening price (O) and the closing price (C) are equal or occur nearby the same level. The biggest difference between the gravestone doji and the doji star is that the gravestone doji has a long upper shadow and a very small or no lower shadow. Doji star has both upper and lower shadows of fairly equal length. The gravestone doji indicates that the bulls (buyers) have moved in with some strength and taken the price up but by the end of the day, the bears (sellers) have taken the price back down to where it opened.

How to Trade the Gravestone Doji When the gravestone doji appears at the bottom of a trend it indicates that the downtrend is about to reverse direction. If the gravestone doji appears at the bottom of a downtrend and possibly in oversold conditions, get ready to buy, or to go long. On the other hand, when the gravestone doji appears at the top of a trend it indicates that the uptrend is about to reverse direction. If the gravestone doji appears at the top of an uptrend and possibly in overbought conditions, get ready to sell, or to go long. The general rule for the doji star pattern and its variations is that after a doji star, or gravestone doji in this case, the trend will generally move in the direction at which the market opens the next day.

DOJI VARIATION 1.3 – DRAGONFLY DOJI

The dragonfly doji is formed when the opening price (O) and the closing price (C) are equal or occur nearby the same level. The biggest difference between the dragonfly doji and the doji star is that the dragonfly doji has a long lower shadow and a very small or no upper shadow. Doji star has both upper and lower shadows of fairly equal length. The dragonfly doji indicates that the bears (sellers) have moved in with some strength and taken the price down, but by the end of the day the bulls (buyers) have taken the price back up to where it opened.

How to Trade the Dragonfly Doji When the dragonfly doji appears at the bottom of a trend it indicates that the downtrend is about to reverse direction. If the dragonfly doji appears at the bottom of a downtrend and possibly in oversold conditions, get ready to buy, or to go long. On the other hand, when the dragonfly doji appears at the top of a trend it indicates that the uptrend is about to reverse direction. If the dragonfly doji appears at the top of an uptrend and possibly in overbought conditions, get ready to sell, or to go long. The general for the dojithe star pattern and its variations that after a at doji star,the or dragonfly dojirule in this case, trend will generally move in is the direction which market opens the next day.


HAMMER PATTERNS PATTERN NO. 2 - HAMMER

The hammer is essentially a dragonfly doji formation with a slightly bigger body. The hammer patterned is formed when the following two conditions are present: 1) The length of the lower shadow must be at least twice the size of the body of the candle. The longer the shadow, the stronger the potential for a reversal. 2) The perfect hammer has no upper shadow. However, if there is a very small upper shadow above the body of the candle, the formation is still considered a hammer pattern.

The color of the candle is not as important has the position where the hammer is located in the trend. However, if the closing price is higher than the opening price, the color of the candle is green. If the closing price is lower than the opening price, the color of the candle is red. A green hammer has more bullish energy than a red hammer. A red hammer has more bearish energy that a green hammer. In order to define whether the hammer is a bullish reversal or a bearish reversal, you need to pay attention to its location in the current trend. In this chapter you are learning about the hammer, which is a bullish reversal pattern. In the following chapter, you will learn its bearish counterpart, the hanging man.

Bullish Reversal When the hammer appears at the bottom of a downtrend or after a series of red candles, and possibly in oversold conditions, this indicates that a reversal is about to occur. In this case the hammer pattern is a bullish reversal.

However, further bullish confirmation is required. If the next day the price opens above the previous day close and the bulls (the buyers) are taking the price up, this is the bullish confirmation that the reversal has occurred. It is time to buy or to go long. On the other hand, if the next day the price opens below or near the previous day close, and the bears (the sellers) start taking the price down, this indicates that we are still in a downtrend. Be patient and wait for further bullish patterns to form.

HAMMER VARIATION 1.1 – HANGING MAN Bearish Reversal

The bearish version of the hammer is called hanging man. It has the same exact characteristics of the hammer: 1) The length of the lower shadow must be at least twice the size of the body of the candle. The longer the shadow, the stronger the potential for a reversal. 2) The perfect hanging man has no upper shadow. However if there is a very small upper shadow above the body of the candle, the formation is still considered a hanging man pattern. Here is the main difference between the hammer and the hanging man: The bullish version of the hammer appears at the bottom of a downtrend, whereas the hanging man, the bearish version of the hammer, appears at the top of an uptrend. When the hanging man appears at the top of an uptrend or after a series of green candles, and possibly in overbought conditions, this indicates that a reversal is about to occur. In this case the hammer pattern, known as hanging man, is a bearish reversal. However, further bearish confirmation is required. If the next day the price opens below the previous day close and the bears (the sellers) are taking the price down, this is the bearish confirmation that the reversal has occurred. It is time to sell or to go short. On the other hand, if the next day the price opens above or near the previous day close, and the bulls (the buyers) start taking the price up, this indicates that you are still in an uptrend. Be patient and wait for further bearish patterns to form.

HAMMER VARIATION 1.2 – INVERTED HAMMER

The inverted hammer is basically a gravestone doji formation with a slightly bigger body. The inverted hammer looks exactly as described by its name: an upside down, or inverted, hammer. The conditions are the same as the hammer: 1) The length of upper shadow must be at least twice the size of the body of the candle. The longer the shadow, the stronger the potential for a reversal. 2) There could be a very short lower shadow, or even better no lower shadow. 3) It is located at the bottom of a downtrend or after a series of red candles, and possibly in the oversold conditions. The color of the candle is not as important has the position where the hammer is located in the trend. However if the closing price is higher than the opening price, the color of the candle is green. If the closing price is lower than the opening price, the color of the candle is red. A green hammer has more bullish energy than a red hammer. A red hammer has more bearish energy that a green hammer. When the hammer appears at the bottom of a downtrend or after a series of red candles, and possibly in oversold conditions, this indicates that a reversal is about to occur. In this case the inverted hammer is consider to be a bullish reversal. However, further bullish confirmation is required. If the next day the price opens above the previous day close and the bulls (the buyers) are taking the price up, this is the bullish confirmation that the reversal has occurred. It is time to buy or to go long. On the other hand, if the next day the price opens below or near the previous day close, and the bears (the sellers) start taking the price down, this indicates that we are still in a downtrend. Be patient and wait for further bullish patterns to form.


ENGULFING PATTERNS PATTERN NO. 3 – ENGULFING The engulfing pattern usually occurs at the end of a trend. The pattern is made of two candles of opposite colors. Generally the color of the first candle is the same as the color of the current marker direction. The exception to the rule is when the first candle is a doji, in which case the color is irrelevant. The first candle is a small one. The second candle is at least twice the size of the first one. The engulfing pattern derives its name from the fact that second candle completely engulfs the body, and possibly the shadows of the first candle. Please note that the shadows of the second candles are not taken into consideration. Only look at the body of the second candle. The trading volume of the engulfed day is also higher than the previous day. The engulfing pattern is a high probability signal and it is one of the strongest reversal patterns. The engulfing pattern can be bullish or bearish, depending on whether the pattern appears after a downtrend in which case will have bullish engulfing, or after an uptrend, in which case we would have a bearish engulfing. Let’s look at them separately.

BULLISH ENGULFING

The bullish engulfing pattern is formed at the bottom of a downtrend or after a series of red candles. The pattern is made of two candles: -

The first candle of the bullish engulfing pattern should be red, unless the first candle is a doji, in which case the color is irrelevant. The second candle should be green. The price of the second candle should open below the closing price of the first candle. The price of the second candle should close above the opening price of the first candle.

Thus, the body of the second candle should completely engulf the body and the possibly the shadows of the first candle. Please note that the shadows of the second candle are not taken into consideration. The bullish engulfing pattern shows that the bears are running out of steam on the day of the first candle, and the bulls are stepping in with great strength on the day of the second candle. We should also see a volume increase on the day of the second candle. The bullish engulfing represents a complete change in investors’ and traders’ sentiment of emotions and decision-making. The bulls (buyers) are now in control over price action, while the bears (sellers) are stepping aside.

How to trade the bullish engulfing formation After the appearance of the bullish engulfing pattern, get ready to buy. If the price opens above the previous day close of the tall green candle, this is the bullish confirmation that the reversal has occurred and that the bulls are stepping in with even greater strength. Time to buy or to go long.

BEARISH ENGULFING

The bearish engulfing pattern is formed at the top of an uptrend or after a series of green candles. The pattern is made of two candles: -

The first candle of the bearish engulfing pattern should be green, unless the first candle is a doji, in which case the color is irrelevant. The second candle should be red. The price of the second candle should open above the closing price of the first candle. The price of the second candle should close below the opening price of the first candle.

Thus, the body of the second candle should completely engulf the body and the possibly the shadows of the first candle. Please note that the shadows of the second candle are not taken into consideration. The bearish engulfing pattern shows that the bulls are running out of steam on the day of the first candle, and the bears are stepping in with great strength on the day of the second candle. We should also see a volume increase on the day of the second candle. The bearish engulfing represents a complete change in investors’ and traders’ sentiment of emotions and decision-making. The bears (sellers) are now in control over price action, while the bulls (buyers) are stepping aside.

How to trade the bearish engulfing formation After the appearance of the bearish engulfing pattern, get ready to sell. If the price opens below the previous day close of the tall red candle, this is the bearish confirmation that the reversal has occurred and that the bears are stepping in with even greater strength. Time to sell and close out the position or go short.


HARAMI PATTERNS PATTERN NO. 4 - HARAMI The harami pattern usually occurs at the end of a trend. The pattern is made of two candles of opposite colors. Generally the color of the first candle is the same as the color of the current marker direction. The harami pattern is basically the mirror image of the engulfing pattern. In the harami pattern, the first day is a tall candle and the second day is a small candle. The second day candle should be half or less the size of the first day candle. The main characteristic of the harami pattern is that body, as well as the shadows, of the small second candle is contained within the body of the first tall candle. Please note that the shadows of the first candle are not taken into consideration. The pattern derives its name from the Japanese word harami, which means pregnant. The first tall candle represents the mother, where the second small candle represents the baby contained within the belly of the mother. The harami pattern is a common candlestick signal. When confirmed by a higher opening price the next day, followed by further price action moving in the direction of the new trend, the harami pattern becomes a very powerful indicator. The harami pattern can be bearish or bullish, depending on whether the pattern appears after a downtrend, in which case will have bullish harami, or after an uptrend, in which case we would have a bearish harami. Let’s look at them separately.

BULLISH HARAMI

The bullish harami pattern is formed at the bottom of a downtrend or after a series of red candles. The pattern is made of two candles: -

The first candle of the bullish harami pattern should be a tall and red. The second candle should be a small green candle. The price of the second candle should open and close inside the opening and closing price of the first candle.

Thus, the body and possibly the shadows of the second candle should be completely contained within the body of the first candle. Please note that the shadows of the first candle are not taken into consideration. The bullish harami pattern shows that the downtrend is about to exhaust its energy and the bulls (buyers) are moving in with some strength. However, like all reversal patterns, the harami also needs confirmation that the downtrend is over and the formation of the uptrend is just beginning.

How to trade the bullish harami formation After the appearance of the bullish harami pattern, get ready to buy. On the following day, if the price opens above the previous day close of the small green candle, it means that further buying is taking place. This is the bullish confirmation that the trend reversal has occurred and that the bulls are stepping in with even greater strength. Following the appearance of the harami pattern, we should also see a volume increase. Time to buy or to go long.

BEARISH HARAMI

The bearish harami pattern is formed at the top of an uptrend or after a series of green candles. The pattern is made of two candles: -

The first candle of the bearish harami pattern should be a tall and green candle. The second candle should be a small red candle. The price of the second candle should open and close inside the opening and closing price of the first candle.

Thus, the body and possibly the shadows of the second candle should be completely contained within the body of the first candle. Please note that the shadows of the first candle are not taken into consideration. The bearish harami pattern shows that the uptrend is about to exhaust its energy and the bears (seller) are moving in with some strength. However, like all reversal patterns, the harami also needs confirmation that the uptrend is over and the formation of the downtrend is just beginning.

How to trade the bearish harami formation After the appearance of the bearish harami pattern, get ready to sell. On the following day, if the price opens below the previous day close of the small red candle, it means that further selling is taking place. This is the bearish confirmation that the trend reversal has occurred and that the bears are stepping in with even greater strength. Following the appearance of the harami pattern, we should also see a volume increase. Time to sell or to go short.

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KICKER PATTERNS PATTERN NO. 5 - K ICKER The kicker pattern is one of the most if not the most powerful candlestick pattern. The kicker pattern may occur at the beginning at the end or in the middle of a trend. The kicker pattern represents a 180-degree change in investor’s sentiment. It is such a strong reversal pattern that its position in a trend is almost irrelevant. The pattern is made of two candles of opposite colors. The color of the first candle may or may not be the same color of the current market direction. The main characteristic of the kicker pattern is that the opening price of the first candle and the opening price of the second candle are the same. The difference between the two candles is that after the open, the price moves in the opposite direction. The bigger the candle, the stronger the reversal pattern. This is true for all of the candlestick reversal patterns. The kicker pattern needs no follow up confirmation as long as the price does not retrace back to the trading range of the first day. The kicker pattern can be bullish or bearish, depending on whether the price reversal occurs after a series of red candles (bullish kicker) or a series of green candles (bearish kicker). Please keep in mind that the location of the kicker in a trend is not a required criterion. Therefore, the kicker pattern can appear in an uptrend, a downtrend or a sideways market. Let’s look at the bullish kicker and the bearish kicker separately.

BULLISH K ICKER

The strongest version of a bullish kicker is generally formed at the bottom of a downtrend or after a series of red candles. However, the bullish kicker can appear anywhere in a trend. It is usually the result of positive news or a positive earning report, often released in the premarket hour or after the market is closed. The pattern is made of two candles of opposite colors. The first candle is red and the second candle is green. The opening price of both candles occurs at the same level, or near the same level. However, after the opening the price moves in the opposite direction. On the first day the price moves downward. On the second day, the price opens at the same level of the opening price of the previous day and it moves upward. This is a perfect bullish kicker. If the second day candle opens higher that the first candle opening price, we are experiencing a gap in price action. Gaps are spaces on the chart where the stock price jumps, whether up or down, leaving an area unmarked of any trading activity. The presence of a gap, further enhances the strength of this bullish reversal pattern. The bigger the gap, the stronger is the reversal. However, keep in mind that every time there is a gap, the market will try to fill that gap. In the case of a gap up, the market will try to drop the price down and fill it. Therefore, if there is a big gap between the red candle day and the following day, expect the price to move down and try to fill up the gap, before it moves up. The bullish kicker requires no follow up confirmation.

How to trade the bullish kicker formation When the bullish kicker is starting to form at the bottom of a downtrend or after a series of red candles, and the price of the second day opens at the same level or higher than the previous red candle, get ready to buy, or to go long.

If the price opens at the same level and starts moving up it is time to buy. Please note that if the price opens much higher than the previous day open, creating a gap, it is advisable to wait 10 – 20 minutes. If the price moves down, fills the gap partially or fully and then starts moving up, it is time to buy, or to go long. What you don’t want to see is the price retracing back to the trading range of the previous day. So if the price moves down, fills the gap and continues moving down, obviously this is a sign that the reversal has not occurred. Or at least it has not occurred yet. Be patient. You might need to wait a few more trading days until a new reversal pattern is confirmed.

BEARISH K ICKER

The strongest version of the bearish kicker is generally formed at the top of an uptrend or after a series of green candles. However, the bearish kicker can appear anywhere in a trend. It is usually the result of negative news or a negative earning report, often released in the premarket hours or after the market is closed. The pattern is made of two candles of opposite colors. The first candle is green and the second candle is red. The opening price of both candles occurs at the same level, or near the same level. However, after the opening the price moves in the opposite direction. On the first day the price moves upward. On the second day, the price gaps down at the same level of the opening price of the previous day and it moves downward. This is a perfect bearish kicker. If the second day candle opens lower that the first candle opening price, we are experiencing a gap in price action. The presence of a gap, further enhances the strength of this bearish reversal pattern. The bigger the gap, the stronger is the reversal. However, keep in mind that every time there is a gap, the market will try to fill that gap. In the case of a gap down, the market will try to bring the price up and fill it. Therefore, if there is a big gap between the green candle day and the following day, expect the price to move up and try to fill the gap, before it moves down. The bearish kicker requires no follow up confirmation.

How to trade the bearish kicker formation When the bearish kicker is starting to form at the top of an uptrend or after a series of green candles, and the price of the second day opens at the same level or lower than the previous green candle, get ready to sell, or to go short. If the price opens at the same level and starts moving down it is time to sell. Please note that if the price opens much lower than the previous day open, creating a big gap, it is

advisable to wait 10 – 20 minutes. If the price moves up, fills the gap partially or fully and then starts moving down, it is time to sell, or to go short. What you don’t want to see is the price retracing up again to the trading range of the previous day. So if the price moves up, fills the gap and continues moving up, obviously this is a sign that the reversal has not occurred. Or at least it has not occurred yet. Be patient. You might need to wait a few more trading days until a new reversal pattern is confirmed.


PIERCING PATTERNS PATTERN NO. 6 – PIERCING LINE

The piercing pattern is formed at the bottom of a downtrend or after a series of red candles. The pattern is made of two candles of opposite colors: -

The first candle of the piercing pattern should be red. The second candle should be green. The price of the second candle should open below the closing price of the first candle. The second candle should close more than halfway up the length of the first candle.

Usually, the first day of the piercing pattern sees strong downtrend in progress. On the second day, the bears (sellers) take the price down even further. However, the bulls step in with strength and start moving the price back up closer to the first day opening price. Please keep in mind that the higher the second candle moves up and pierces the first candle, the stronger the reversal.

How to trade the piercing pattern formation After the appearance of the piercing pattern, get ready to buy, or to go long. If the next day, the price opens near or above the previous day close, this is the bullish confirmation that the reversal has occurred and that the bulls (buyers) are stepping in with greater strength. Time to buy or to go long.

How do we know if the reversal has not occurred? Simple. The reversal has not occurred if the price opens near the previous day close, moves down and closes the trading day more than halfway down the green candle of the previous day.


PATTERN NO. 7 – DARK CLOUD

The bearish counterpart of the piercing line is called dark cloud. The dark cloud pattern is formed at the top of an uptrend or after a series of green candles. The pattern is made of two candles of opposite colors: -

The first candle of the dark cloud pattern should be green. The second candle should be red. The price of the second candle should open above the closing price of the first candle. The second candle should close more than halfway down the length of the first candle.

Usually, the first day of the dark cloud pattern sees strong uptrend in progress. On the second day, the bulls (buyers) take the price up even further. However, the bears step in with strength and start moving the price back down closer to the first day closing price. Please keep in mind that the lower the second candle moves down and pierces the first candle, the stronger the reversal.

How to trade the dark cloud formation After the appearance of the piercing pattern, get ready to sell, or to go short. If the next day, the price opens near or below the previous day close, this is the bearish confirmation that the reversal has occurred and that the bears (sellers) are stepping in with greater strength. Time to sell or to go short. How do we know if the reversal has not occurred? Again, simple. The reversal has not occurred if the price opens near the previous day close, moves up and closes the trading day more than halfway up the green candle of the previous day.


STAR PATTERNS PATTERN NO. 8 – MORNING STAR

The morning star pattern is formed at the bottom of a downtrend or after a series of red candles. The morning star pattern is made of three candles: -

The first candle of the morning star pattern should be a tall red candle confirming the downtrend. The second candle should be a doji or a spinning top pattern, indicating some sort of indecision. The second candle is the star in the pattern formation. The third candle should be a fairly tall green candle confirming that the reversal is occurring. The third candle should open up higher than the second day opening price and it should close at least halfway up the length of the first candle.

So, on the first day of the morning star you see a strong downtrend, with the bears (sellers) fully in control. On the second day, the bears take the price even further, often times with a gap down. However, during the course of the day we see some bullish activity, where the price trades near the opening level. The second day indicates indecision, which is represented by a doji or the spinning top. On the third day the price opens with a gap on the upside; the bulls are gaining control and start moving the price higher, closing at least halfway up the first day candle. The size of the first and third candle indicates the strength of the possible reversal movement. The bigger the candle, the stronger the reversal. A gap in price, before and after the star formation (the second candle) indicates an even stronger reversal. The presence of the gap is ideal, however it is not a required criterion.

How to trade the morning star formation

After the appearance of the morning star pattern, get ready to buy, or to go long. If on the next day the price opens near or above the previous day close, this is the bullish confirmation that the reversal has occurred. The bulls are stepping in with greater strength and the bears are stepping aside. Time to buy or to go long. How do you know that the reversal has not occurred? Basically you want to see a price that moves up, or at least a price that stays above the halfway point of the third candle of the morning star pattern. However, if the price opens near or below the third day opening price and closes below the halfway point of the third day candle of the morning star pattern, it indicates that the reversal has not occurred. Be patient and wait for further bullish reversal patterns to form.


PATTERN NO. 9 – EVENING STAR

The evening star pattern is formed at the top of an uptrend or after a series of green candles. The evening star pattern is made of three candles: -

The first candle of the evening star pattern should be a tall green candle confirming the uptrend. The second candle should be a doji or a spinning top pattern, indicating some sort of indecision. The second candle is the star in the pattern formation. The third candle should be a fairly tall red candle confirming that the reversal is occurring. The third candle should open up lower than the second day opening price and it should close at least halfway down the length of the first candle.

So, the first day of the evening star you see a strong uptrend, with the bulls (buyers) fully in control. On the second day the bulls take the price even further, often times with a gap up. However, during the course of the day you see some bearish activity, where the price trades near the opening level. The second day indicates indecision, which is represented by a doji or the spinning top. On the third day the price opens with a gap on the downside; the bears are gaining control and start moving the price lower, closing at least halfway down the first day candle. The size of the first and third candle indicates the strength of the possible reversal movement. The bigger the candle, the stronger the reversal. A gap in price, before and after the star formation (the second candle) indicates an even stronger reversal. The presence of the gap is ideal, however, it is not a required criterion.

How to trade the evening star formation After the appearance of the evening star pattern, get ready to sell, or to go short.

If on the next day the price opens near or below the previous day close, this is the bearish confirmation that the reversal has occurred. The bears are stepping in with greater strength and the bulls are stepping aside. Time to sell or to go short. How do we know that the reversal has not occurred? Basically you want to see a price that moves down, or at least a price that stays below the halfway point of the third candle of the evening star pattern. However, if the price opens near or above the third day opening price and closes above the halfway point of the third day candle of the evening star pattern, it indicates that the reversal has not occurred. Be patient and wait for further bearish reversal patterns to form.


PATTERN NO. 10 – SHOOTING STAR

The shooting star pattern is formed at the top of an uptrend or after a series of green candles. The shooting star pattern is made of two candles: -

The first candle is a tall green candle, indicating that the uptrend is still in place. The second candle has a smaller body, with a long upper shadow and a very small or no lower shadow and looks like an inverted hammer. The color of the second candle is irrelevant. However, a red candle has more bearish energy than a green candle.

The first day indicates bullish energy taking the price up. On the second day exuberant buying pressure pushes the price even higher. However, by the end of the day, the bears (sellers) have taken the price back down near or below the level of the opening price. The selling pressure has increased and so has the trading volume of the day. However, like with all of the patterns, bearish reversal confirmation is required.

How to trade the shooting star formation After the appearance of the shooting star pattern get ready to sell, or to go short. If on the next day the price opens lower, near or below the closing price of the shooting star day and the bears (sellers) move the price down, this is the bearish confirmation that the bears are stepping in with greater strength. Time to sell or to go short. What you do not want to see is a price that opens below the previous day close and starts moving back up towards the trading range of the previous day. If the price closes near of above the previous day close, the reversal pattern has not occurred. Be patient and wait for further bearish reversal patterns to form.

TAKE ACTION

If you are interested in diving deeper into candlestick trading, enroll in one of our online courses. Get serious about your money management and your personal investments by visiting www.sharpertrades.com.

CONCLUSION Because of the incredible amount of financial news and information available 24/7, ironically causing more confusion than clarity, candlestick analysis is a very important tool to have in today’s marketplace. If you are interested in understanding the market as an investor or a trader who wants to learn how to make consistent profits then Japanese candlesticks will help you achieve that. Candlesticks help investors and traders cut through the noise of news and information, giving a clearer view of what is happening in the market in order to design more effecting and successful trading strategies. If candlesticks analysis was a valuable instrument 300 years ago, it is even more valuable to day. If you have enjoyed this eBook and found it useful, I would appreciate it if you would post a short review on Amazon. Thank you for your support and learning with SharperTrades.com and making this eBook successful. Good trading!


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