2022-12-22 2022-12-22
Bullish Engulfing Candlestick Pattern: What Is and How to TradeAlan Tsagaraevhttps://www.litefinance.org/blog/authors/alan-tsagaraev/
The Bullish Engulfing pattern signals a soon bearish-to-bullish reversal of an ongoing trend. The bullish engulfing candle is a bullish candle whose closing price is higher than the previous day’s opening after opening lower than the previous day’s close. This is a reversal pattern in candlestick analysis.
The article covers the following subjects:
What is a Bullish Engulfing Candle Pattern?
The bullish engulfing pattern consists of two Japanese candlesticks, the second of which is bullish and engulfs the first one.
A bullish engulfing pattern appears at the low of a downtrend and indicates that the price has reached a strong support level and buying pressure is rising.
This pattern can often be seen when trading in the Forex market. It is most pronounced in the stock charts since gaps on these instruments are more common, and a bullish engulfing is easier to find in the chart. Also, the formation can be found in the commodity and cryptocurrency markets.
So, for example, in the daily chart of Ford Motor Co shares, after the appearance of a series of bullish engulfing patterns, the trend turns up.
The price reaches a strong support level and rebounds three times from it. This is a signal to open a buy position.
How to Find Engulfing Candlestick Patterns?
It is easy to find a bullish engulfing pattern in a candlestick chart. The pattern should meet three criteria:
It is necessary to determine in which direction the price is heading. In the case of a bullish engulfing pattern, there should be a pronounced downtrend, as the formation appears at the bottom. A downtrend could be either long-term or short-term. However, situations may arise when an asset is in a long-term consolidation, forming a new springboard for growth.
It is important that the body of the second bullish candle covers the body of the first candle. The shadows do not matter.
The second candle should be bullish, it is usually white or green. The first one should be small and bearish, red or black. However, there are exceptions when the colors of the first and second bullish engulfing candles match. For example, if the real body of the first candle is small or completely absent. A small candlestick body or its absence characterizes the Doji candlestick pattern, which is also a sign of an imminent bullish price reversal and highlights the indecision in the market.
Bullish Engulfing Candlestick Pattern in Trading
In trading any asset, it is important first to determine the support and resistance levels to spot a potential pivot point. In addition, it is important to control trading volumes and the location of large limit and market orders by the Depth of the Market. Based on these data, in conjunction with candlestick and indicator analysis, it is possible to determine a more advantageous entry point.
I emphasize that the bullish engulfing candlestick pattern belongs to the category of reversal patterns, thanks to which a trader can easily determine the pivot level.
Factors that increase the likelihood of a trend reversal when a bullish engulfing pattern appears:
The first candlestick in the pattern is short, while the second bullish candle is quite long. This suggests that the bears are losing their grip, and the bulls are taking control of the market.
The bullish engulfing pattern is formed following a long downtrend.
A bullish candle is formed on a large trading volume, which indicates a consensus among market participants at a certain price level, and the market turns bullish.
Another factor that reinforces the trend reversal is when the second candlestick is bigger than a few previous ones.
Confirmation of Engulfing Pattern
There are many price action patterns and combinations in candlestick analysis that can confirm a bullish engulfing pattern. In addition, to make sure that the trend is reversing when the engulfing pattern appears, you can use the simplest technical analysis indicators. It is enough to add RSI, MACD or Stoch stochastic indicators to the chart, which will allow you to determine in advance the zones where the trend can potentially reverse.
If a bullish engulfing pattern forms in such a zone, and there are other candlestick patterns confirming the bullish reversal, one should consider a buy trade. Larger price patterns, such as double bottoms, falling wedges, ascending triangles, and so on, can also serve as confirmation of the engulfing pattern.
Let’s take a closer look at the four-hour EURUSD chart. The figure below displays a downtrend. There are a lot of bullish reversal signals at the trend low:
There is a falling wedge pattern, and the price breaks it out upside;
The RSI indicates a bullish divergence, which warns that the bearish trend is exhausting and the price could turn up;
The RSI rebounds from the lower border;
The MACD breaks the zero level upside;
There is a series of reversal patterns: a hammer, an inverted hammer, and a bullish engulfing.
The combination of these signals means the price has reached the local low, and one could enter a long trade.
Reduce Your Risk with Stop Loss
Before you open a trading position and set stop-loss levels, you need to determine the support and resistance levels.
When you have identified a bullish engulfing pattern and entered a long trade, you should set a stop-loss order below the pattern or the support level. If the engulfing pattern is confirmed using other candlestick patterns or technical indicators, and there is also confidence that the trend is changing its direction, then you can set a stop loss below the previous local lows. For example, as in this example, a stop loss can be placed below the formed hammer reversal pattern.
In both cases, you should calculate the risks and act according to money management rules, as any trader aims at gaining profits, not losing money. Avert high risk, although the potential profit could be lower.
Support and Resistance levels
Support and resistance levels are one of the most important components of trading because, due to the correct definition of these levels, you can develop a profitable and effective trading strategy.
In fact, a bullish engulfing signal, combined with other patterns at a certain support level, is a warning to market participants that a reversal is imminent. And the resistance level, in this case, is an approximate take-profit target. That is, by determining the support and resistance levels, you can find more profitable entry and exit points while reducing risks.
The XAUUSD chart below shows the distribution of key support and resistance levels. Since the bullish engulfing pattern suggests the price should go up and there is a pronounced uptrend in the chart, we are more interested in resistance levels to determine take-profit points.
Following a long consolidation, the support level is determined, where the bullish engulfing pattern has formed. At this point, a buy trade should be entered, and a stop loss is set below the support level.
Having analyzed the chart for previous periods, resistance levels were determined in a grid order. Therefore, the take profit must be placed in grid order with a taking of 50% profit from the total volume of the transaction.
When the highest resistance level is reached, the price forms a bearish engulfing pattern. It is a signal to exit the trade with a profit.
As you can see, support and resistance levels have a strong advantage, as they indicate the liquidity accumulation levels, whose breakout determines the further price movement.
Engulfing Pattern Examples
Let us look at the bullish engulfing candle in forex trading. I will use the USDCHF chart as an example. You can see in the chart below that the price has drawn a bullish engulfing pattern at the support level.
In addition, if we consider individual candlesticks, a doji pattern forms on the first day, which indicates indecision in the market. On the second day, a bullish inverted hammer candlestick appears, which indicates a reversal. The first engulfing pattern is confirmed by another inverted hammer and a bullish engulfing.
As you see, following the bullish patterns, a three-week rally starts.
In such a case, it is relevant to enter a buy trade with a stop loss below the support level.
Let us look at another bullish engulfing pattern in the daily ETHUSD chart. You can see that the asset has been accumulating for some time, and an uptrend starts following a bullish engulfing candlestick pattern.
Furthermore, there is a hammer pattern within the two-candlestick engulfing pattern, which indicates a soon bullish reversal. The bullish engulfing can be confirmed by an inverted hammer pattern, which is also a reversal pattern. Following this combination, a long-term bullish trend starts.
A clearer and correct construction of the bullish engulfing pattern can be seen in the daily stock chart of Netflix, Inc. Following a downtrend, the price starts turning up near a support level, having formed a series of bullish engulfing patterns. In addition, a hammer and inverted hammer patterns confirming the price reversal have formed.
Also, you can see a three white soldiers trend continuation pattern, following which the price corrects down a little and continues rising to the resistance level.
How to trade the Bullish Engulfing pattern
Let us look at a step-by-step plan to trade a bullish engulfing pattern. I will use the hourly EURCAD price chart as an example of short-term trading.
1. Define the pattern and support/resistance levels
In trading the bullish engulfing candle, after choosing an asset for trading, it is necessary to determine the bullish engulfing candle pattern in the chart, as well as the support and resistance levels. The figure below shows the formation of a three-candlestick morning star reversal pattern, which included the bullish engulfing pattern.
2. Add technical indicators analysis
The next step is to add the MACD and RSI stochastic indicators to the chart to determine the overbought and oversold zones. In this case, the RSI indicator shows that the values have reached the lower limit and gone lower into the oversold zone. In addition, this is accompanied by a bullish divergence, which warns of a trend reversal up.
The MACD indicator also shows an upward crossing of the zero zone, which is a sign of a trend reversal.
3. Confirm the pattern using other candlestick patterns
You can see below that candlestick patterns confirming a bullish engulfing pattern appear in the chart. The bullish sentiment is confirmed by a hammer and an inverted hammer.
4. Enter a trade, define the target profit and a set stop-loss
When you make sure that the trend is about to reverse up, you need to enter a long trade and set a stop loss. A buy position should be opened only when the bullish engulfing pattern is confirmed. In our example, the bullish engulfing is proven by technical indicators and two reversal candlesticks. A stop loss should be set beyond the support level, below the shadow of the engulfing candle.
The target is set around the upper resistance, as the highest liquidity for the instrument is there.
5. Take Profit
You can take the profit both partially and fully when the target is reached.
A more conservative strategy suggests exiting the trade in parts.
As you see, the target is reached in seven days, and the profit is 2614 pips.
Bullish and Bearish Engulfing Pattern Difference
The difference between bullish and bearish engulfing patterns is that the pattern should form at the right place to work out correctly.
That is, a bearish engulfing occurs at the high and signals the end of an uptrend, while bullish engulfing forms at the low and warns of an upward reversal. Both bullish and bearish engulfing patterns mean the trend reversal, only in different directions.
Conclusion
Summing up, it should be emphasized that the bullish engulfing refers to reversal patterns and warns traders about the growing bullish activity at the low of a downtrend.
To trade a bullish engulfing candlestick with a profit, the reversal should be confirmed by other candlestick patterns and technical indicators.
You can try trading the bullish engulfing pattern in the convenient and user-friendly LiteFinance trading terminal without registration on a free demo account.
Bullish Engulfing pattern FAQs
The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteFinance. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2004/39/EC.
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