Monday, October 31, 2011

Bearish Engulfing Pattern

It is a chart pattern that consists of a small white candlestick with short shadows or tails followed by a large black candlestick that eclipses or "engulfs" the small white one.

As implied by its name, a bearish engulfing pattern may provide an indication of a future bearish trend. This type of pattern usually accompanies an uptrend in a security, possibly signalling a peak or slowdown in its advancement. However, whenever a trader analyzes any candlestick pattern, it's important for him or her, before making any decisions, to consider the prices of the days that precede and follow the formation of the pattern.
The pattern consists of two Candlesticks:
  • Smaller Bullish Candle (Day 1)
  • Larger Bearish Candle (Day 2)
Generally, the bullish candle real body of Day 1 is contained within the real body of the bearish candle of Day 2.
The market gaps up (bullish sign) on Day 2; but, the bulls do not push very far higher before bears take over and push prices further down, not only filling in the gap down from the morning's open but also pushing prices below the previous day's open.
With the Bullish Engulfing Pattern, there is an incredible change of sentiment from the bullish gap up at the open, to the large bearish real body candle that closed at the lows of the day. Bears have successfully overtaken bulls for the day and possibly for the next few periods.
The chart below of Verizon (VZ) stock shows an example two Bearish Engulfing Patterns occuring at the end of up trends:
Sell Signal
Three methodologies for selling using the Bearish Engulfing Pattern are listed below in order of most aggressive to most conservative:
  1. Sell at the close of Day 2. An even stronger indication to sell is given when there is a substantial increase in volume that accompanies the large move downward in price.
  1. Sell on the day after the Bearish Engulfing Pattern occurs; by waiting until the next day to sell, a trader is making sure that the bearish reversal pattern is for real and was not just a one day occurrence. In the chart above of Verizon, a trader would probably entered on the day after the Bearish Engulfing Pattern because the selling continued.
  1. Usually trader's wait for other signals, such as a price break below the upward support line, before entering a sell order. However, in the case of Verizon above, the Bearish Engulfing Pattern occured at the same time as the trend line break below support.
Intra-day Bearish Engulfing Pattern
The following 15-minute chart of Verizon (VZ) of the 2-day period comprises the Bearish Engulfing Pattern example on the prior page:
  • Day 1: As is seen in the chart above, Day 1 was an up day, closing near the day's high (bullish sentiment).
  • Day 2: The open was a gap up, a very bullish sign; nevertheless, the bulls ran out of buying pressure and prices fell the rest of the day, closing near the day's lows (bearish sentiment) and lower than Day 1's lows.