A Japanese Candlestick Pattern may Indicate a Low for the Markets Retracement for Now (Pt 1 of 2)

Tom Gentile

Posted in Technical Analysis

By: Tom Gentile on October 13th, 2022 • 3 mins read

Not sure if you all are familiar with the Taylor Swift song, Shake it Off, but a day like to day you would believe the financial markets are.

The CPI report comes out this morning and it like the PPI yesterday came in hotter than expected.

The markets gapped down around 550-points and shortly thereafter shook off the losses and for the rest of the day traded higher.

The Dow closed up 827.87 points or 2.83%, the NASDAQ closed up 232.05 points or 2.23% and the S&P 500 closed higher by 92.88 points or 2.60%.

The markets gapped lower, reversed, and closed higher for the day so if you look at the chart with a candlestick view you will see a very intriguing bullish reversal pattern.

Bullish Engulfing Pattern

This is a 2-period pattern, (the period we will use is a daily period).

It forms at the bottom of a retracement or at a price support level.

It is a formation where the first day in the pattern is a small real candle body, usually red, but not needing to be. The following day is a much longer / larger real candle body that totally consumes or ‘Engulfs’ the previous days real candle body range.

The perceived psychology behind this pattern is the trend may be reversing.

The security is in a downtrend.

The gap down on the day gives a first impression the bears are still in charge and are likely to take this security lower even more as the gap is in the direction of the existing trend; down.

Instead, what happens over the course of the day is the bulls step back in and start buying. One can try to figure out their rationale for buying if they want. It could be cost dollar averaging of securities they own at higher prices. It could be they find the securities now trading at a price that makes the securities valuation attractive.

Regardless of the reason for the buying it happens.

The buying does not stop, and the security ends up going positive, taking out the open price and establishing a high price on the day and it stay that way or improves to end the day significantly higher than the open (or close) of the previous day.

This could be a signal that bulls are going to continue to buy in the coming days and for at least a short period (or longer), the trend will reverse and become bullish.

A couple of things can take place from here.

  1. The trend does indeed reverse for at least another day and the security opens up near where it closed and continues to run higher OR
  2. The security consolidates for a few days.  And by consolidates we are talking its next few trading days ranges will trade within the range of the bullish reversal day of the Bullish Engulfing Pattern.

It is that second scenario we will educate you more on in Part Two tomorrow.

Figure 1: Completed Bullish Engulfing Pattern on SPY 2022/10/13
Figure 1: Completed Bullish Engulfing Pattern on SPY 2022/10/13

Part Two: Rising Three Methods is a Possibility

Tomorrow we will further educate on a bit of Japanese Candlestick training in that one thing that may happen for the markets is it consolidates up to a few days within the range of todays bullish range of trading.

We will illustrate that pattern and what to consider with that pattern.

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