Engulfing Candlestick Trend Entry Strategy

Screen Shot 2014-06-17 at 11.12.19

 

Video Transcription:

Hey Traders, welcome to video four of the Advanced Forex Strategies Course. This is Cory Mitchell. We’re continuing our look at strategies, in this video The Engulfing Candlestick Trend Entry. We can use it on all time frames, and the video is brought to you buy Investoo.com.

Trend trading is where the money is. There are multiple ways to trade trends, but this strategy is a staple, gets us in early, keeps profit’s larger than losses, and our risk relatively small. It can be used on all times, for day trading, or swing trading, although it is recommended for day trading, since we do have to be watching for the entry.

So, you’re going to recognize this from prior videos, a little review, up trends occur when the price is making higher swing highs, higher swing lows. Down trends make lower lows, and lower highs. We only trade in the direction of the trend. This setup occurs fairly common, is fairly common, and occurs on all time frames. We’ll look at other trend trading strategies as well throughout these videos so that no matter what the trend looks like you have a way to trade.

In the last two videos we looked at setups that involved a breakout of a pause, or price channel. This strategy is a little bit different. All it requires is a sharp move back in the trending direction, so it is more frequent, or we see it more frequently.

So, during an uptrend we wait for the price to pull back, the price is moving higher, we’re waiting for a pullback to the downside. We avoid trades when the trend isn’t clear. Once we have a pullback for at least three bars we are watching for an up bar to completely engulf the last down- bar. Basically, up-move, down-move, and right at the bottom here we’re looking for a sharp move back in the trending direction.

Both the engulfing bar and the down-bar should have some substance then, meaning that we want to see a bit of a difference between the open and close. We don’t want to see engulfing bars that are extremely small, because that doesn’t show a strong shift in momentum. We need to see strong selling in one bar followed by strong buying on the next.

We’ll look at a few examples of this, so it will all become clear in a moment if it doesn’t make sense here. Buy as soon as the bullish engulfing candle moves above the prior bar open. So, we have a down-bar in the pullback followed by an up-bar as soon as it crosses above the open of the down-bar we are looking to buy. We do not wait for bars to close, and as mentioned, we’re looking for a certain look. A sharp move back in the trend direction following a pullback.

Our stock goes one pit below the recent low, and our target, as we’ve done in a few other strategies, 1.6 and 2.6 times the risk. So, if we are… we have ten pips of risk we are looking at a target of 16 and 26 pips. Whenever possible we will split our positions so that it’s easy to get out at those different targets, instead of taking too many lots, or two micro lots for example, we’re going to take two positions of one mini lot, or one micro lot.

Similar situation for a down trend, we are waiting for the price to pull back. Once we have a pullback of at least three bars, in this case the pull back is higher, we are moving down, we’re having a pullback higher, we’re watching for a down-bar to completely engulf the last up-bar. Once again, they should have some substance in them showing a strong shift in momentum. We sell, or short, as soon as the bearish engulfing candle moves below the prior bar open. Stop is placed one pip above the recent high, and targets are at 1.6 and 2.6 times the risk.

So, let’s look at a couple examples, here we have a Euro/USD one minute chart. Moving up throughout the morning higher highs, higher lows, no question here as to whether the trend is up. At this point we do have a bit of a lower here, a lower high, and a pullback, but we do have this strong shift in momentum here. So, this not an absolute textbook trade, which I put here, simply because we have had a lower high, and we’re making a bit of a lower low here, but we can see overall momentum is up. We’re not seeing a lot of strong selling pressure to the downside, so this would be a valid trade.

Five point seven pips of risk we are taking as soon as the price crosses above the open of the last candle, so we do not wait for bars to complete, so our entry would have been right about there. We’re looking at about 4.5, 4.7 pips of risk from the entry. We tack on an extra pip, so we’re looking at 5.7 pips of risk from our entry point; multiply that by 1.6 and 2.6 to get our targets. So, our targets would have been at 9.1 and 14.8.

On a five minute chart, or a one minute chart, we need to be able to calculate these quite quickly. I recommend that if typically you’re trading a five minute chart you’re going to have lots of stops between about 6 pips, 5 pips, 6 pips to about 12 pips, so I’d almost memorize exactly what those profit targets are for all those stops that you use frequently.

So, we have a strong move here, it makes a higher high, it pulls back three bars. We are making a higher low as well, so no question here. This is a valid set up, something we want to get in. We would have traded this as soon as the price on this bar had popped about the open on this bar. So, this green bar opened down here, it traded up as high as this point, and as soon as it crossed the open of that red bar, which would have been this level right here, we are looking to buy. So, that would have been right about where the top of the box is here.

So, we’re looking at about 10 pips of risk, we add on an extra pip, so we’re looking at about 11 to 11.5 pips of risk. I used 11.5. Multiply that by 1.6 and 2.6 to get our targets, which we would have hit here. This technically would have been a signal as well, although we would have been in this trade still.

Moving down here we have a news related move, two bar pull back, and we see a potential entry here, at this point, at one point during this five minute period this bar here would’ve traded below the open of the prior green bar, so that would have been a bearish engulfing pattern, but we only have a two bar pull back. We could have dropped down to a one minute chart if you were interested in trading this, and if you have a valid set up on the minute chart you could look for it there.

One thing to know is on news related moves, take this, if we have a down- bar like this followed by an up-bar of equal magnitude we would not consider that a valid trading opportunity. We have separate strategies for news related events, so we do not want to enter, or use bullish engulfing patterns when we have a mass of volatility. So, if this red bar would of occurred right next to this green bar, and the trend was down, we still wouldn’t trade that; there’s just too much movement there, too much exposure, the stop would be too big, and we just don’t want to trade that.

We’re looking for general, or normal, market movement that just shows, “Hey, we’re moving back in the trending direction.” So, here we have a very weak pull back, which is why I would’ve taken this trade, overall momentums up. Here we have another pop in a trending direction, pull back, moving back in the trending direction. It’s very rhythmic, there’s no… Not a lot of volatility going on here yet, so these are good trades. Once we get to here, if we would’ve seen one here that’s not something we’d want to trade.

So, let’s look at the Odd USD. This is an hourly chart, as I mentioned, we’re probably going to use this mostly on the daily simply… or on the, like a 5 minute, 10 minute, 15 minute chart simply because we’re watching for an entry point. On the hourly chart if you happen to catch these are good trades though. Here we have a down trend; we’re making a lower low, lower high than this. So, this is a valid entry here, and see this bar at one point traded as low as here before moving backing to close here. We would’ve taken that trade though as soon as the price crossed below the open of that green candle.

So, we’re looking at an entry point approximately about 19 pips of risk here. When I originally calculated it out it was 18.6 including our pip extra. So, we multiply 18.6 times 1.6, and 2.6. We get our first target 29.76 and we would not quite have gotten out of this trade here. We were looking for a 24.4… or sorry 48.4 pips; they should actually rounded to 8 and 4.

So, we’re looking for 48.4 pips here from our entry point, may have gotten it, but possibly not, otherwise we would have had to wait until the price eventually moved down here. As we can see our stop would have been up here, one pip above, and that was never in danger.

As we see the price similar to the Euro/USD example, we have this overall, but it makes slightly higher… lower lows. Here we have the same sort of thing overall structure is down, moving choppily sideways, we have a little bit of a higher high here, little bit of a higher low, but the overall momentum is down, so this is a valid signal. Especially, since we have a drop and were making a lower high when it forms.

Once again, entering right at here at the bottom risk is one pip; your stop is one pip above the high of the formation. So, we’re looking to put our stop right here. So, on this one, we would’ve had about 10 pips of risk; 16 pips and 26 pips are our targets.

Strong move down, we have this little pop here, bearish engulfing pattern, but we don’t have three bars. So, this technically isn’t really even a pull back, it’s more just a pause and continuation.

Here we have markets running higher, we have a bearish engulfing pattern here, I’ve X’d it out, simply because this is probably the most common mistake with this strategy is that people will start trading all of them, but recall we only trade with the trend. This is going against the trend if we trade this, while it looks nice in hindsight, because it did actually move lower. We want to trade with the trend so, this at this time momentum is down, at this time momentum is down, so we’re trading with the trend. At this point of this signal moment is up, this could have very easily pulled back and flown higher again. So, not a valid signal there.

So, just a little review, every trade has a stop and target and we put those out as soon as we place the trade when we’re trading on shorter time frames, such as the one or five minute chart. We’re going to have make those calculations very quickly; some memorization of some common stops that you use will help in this regard. We only risk 1% of our account on a trade, that way even a string of losses won’t significantly draw down on your account.

If you have questions about this go back to video one, as this covers a lot more risk management. Even when we’re taking multiple positions, or multiple to positions to take different targets, that still only counts as one trade. Taking too many lots on one trade is the same as taking two trades of one mini lot.

Only trade in the trending direction, following a pullback we’re looking for engulfing patterns which show a shift, or move, back in the trending direction. Use discretion if you have to huge bars in the second visiting engulfing pattern, skip the risk it’s too large, and the market to volatile to take high probability trades. Typically those types of moves are news related, and we have specific news related strategies we’ll cover in future videos. Place a stop above the recent high for a down trend. Once, you’ve taken entry and a stop below the recent low during an uptrend.

When possible keep risk under 1%, split your positions up, and take profits at two targets. Those targets are 1.6 and 2.6 times your risk. As we’ve discussed in the past videos, we have the option to reduce risk. This is optional it is not mandatory; you can simply set your positions, and allow your targets to get hit. One option though is to reduce your target, or your stop, to break even on any remaining positions once your first target is hit. So, once you’ve hit this 1.6 target, and that position is gone, you can reduce your… Reduce your stock to break even, simply that when the price is heading toward this target it does not fall all the way back, and resulting in a loss.

When the price is close to this second target then you can move your stock up to this first target, that way you’re for sure locking in a profit. Trading involves substantial risk of loss, only trade with capital that you can afford to lose. Trading with capital that you absolutely need might result in something that you do not want.

Test out strategies before using them to make sure you’re actually able to implement them, and they work for you. I’ve shown you a few examples it’s now up to you to go into a demo account, and look for these types of setups, notice how… analyze the trends, see where the trend is, look for the direction, be able to spot those engulfing patterns in real time, be able to set your entry’s, stops, and targets accordingly, all these things take practice. Until next time, happy trading.

Comments are closed.