Bullish Engulfing and bearish engulfing are amongst the top reversal patterns that traders use. Both patterns consist of two opposite colored bodies. The bullish engulfing pattern forms after a downtrend, where its price opens lower than the previous day’s close and closes higher than the previous day’s open, thus “engulfing” the body of the first candle. The first candle is a black colored body that closes down for the day and the second candle is a white colored body that closes past the previous day’s open. This pattern has to appear at a support level, after a bearish swing. Otherwise, if it appears at a resistance level, it is not a bullish engulfing.
The bearish engulfing pattern is the exact opposite. It forms after an uptrend, where its price opens higher than the previous day’s close and closes lower than the previous day’s open. In other words, the black candle engulfs the previous day’s white candle. This pattern has to appear at resistance level, after a bullish swing. If it appears at a support, it is not a bearish engulfing.
To be considered an engulfing pattern, the second body has to completely engulf the first body. Shadows are not taken into consideration. The first candle should be the color of the previous trend and the second candle should be the opposite color. The only exception is when the first candle is a Doji. Prices also have to be in an uptrend or downtrend, even if it is short term.
Engulfing Candle Pattern
The engulfing patterns are more significant after a prolonged downtrend or uptrend. During the day of the bullish engulfing, prices usually open and start falling. Before the end of the day, strong buying interest comes in and the price rises and closes above the previous day’s open. This shows that previously there was more supply than demand, but now the buyers are taking control.
On the contrary, during the day of the bearish engulfing, prices usually open and start rising. Then, strong selling interest comes in and the prices decreases and closes below the previous day’s open.
Engulfing Candle Trading Strategy
Like most reversal patterns, when you see these engulfing candles, it is a signal that the trend is about to reverse. You should considering exiting any positions you’re holding or tighten your stops. Also, determine what additional confirmations you need to confirm the new trend.
When analyzing the engulfing patterns, pay attention to the size of the candle. The larger it is, the more significant the reversal may be. For example, an engulfing candle that “engulfs” several of the previous candles is more significant than one that just engulfs the previous day’s candle. The ROSG chart below shows a good example of this.
After an upswing, a bearish engulfing pattern formed on November 23, 2016. This large candle engulfs many of the preceding candles in the short uptrend, indicating a strong reversal. This formation was followed by a downtrend that lasted for over four months. To enter the trade, a trader should not short sell on November 23 but rather wait for that day’s low to be broken. Entry confirmation came on November 24 and a short sell can be initiated then. You can set up a stop loss at the November 23 high.
The below stock chart of IART has an example of a bullish engulfing pattern. After a downswing, a bullish engulfing pattern formed, indicating that the trend may reverse. To enter the trade, wait until that day’s high is broken. Entry confirmation came the next day so you can purchase the stock then and set up a stop loss at the previous day low.
Engulfing Pattern Indicators
There are several key indicators that enhance the engulfing reversal patterns. It is important to look out for them because they increase the chances of a reversal.
- A large candle body engulfing more than one previous body indicates a strong reversal.
- If a candle body engulfs the previous day’s candle body and shadows, it increases the chances of a reversal.
- Large volume on the engulfing day increases the chances of a reversal.
- The more the open gaps from the previous close, the greater the chance of a reversal.
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