Engulfing is one of those candlestick patterns in the forex market that provides a useful way for traders to anticipate a possible reversal in the trend. There are two types of engulfing patterns – Bullish Engulfing and Bearish Engulfing. The engulfing candle’s bearish or bullishness is wholly based on its position in relation to the existing trend of an underlying asset.
Understanding The Types
A bullish engulfing pattern can appear anywhere in the trend. But it holds more significance if it appears in a downtrend. This pattern indicates the surge in buying pressure as it shows that more buyers are entering the market, driving the price action further up. This pattern consists of a bearish red candle and the second bullish candle completely engulfs the body of the previous red candle.
Interpretation – Always look for the bullish engulfing pattern in a clear downtrend. For entering a trade, traders must combine this pattern with support resistance levels or with any reliable technical indicator for additional confirmation of the trend reversal.
Bearish engulfing pattern is just the opposite of the bullish engulfing pattern. Instead of appearing at the bottom of the trend, this pattern appears at the top of the trend. We can say that more accurate and reliable signals can be generated when this pattern appears at the top of an uptrend. The bearish engulfing pattern consists of two candles. The first one being the green candle. This one is, next, engulfed by the subsequent red candle. The pattern triggers a reversal in an existing trend. It indicates the buyers are no longer able to push the price higher, and the bears took control of the market.
Interpretation – Always look for the bearish engulfing pattern in a clear uptrend. The second red candle must engulf the green candle ultimately, showing that bears are piling into the market aggressively. For entering a trade, traders must look for additional confirmation, such as support resistance levels or by using any reliable technical indicator.
Pairing the Engulfing pattern with Support/Resistance
Every trader has a unique way of trading the market. Some traders like to go with the trend while some traders only trade counter-trend moves. In this strategy, we have paired the engulfing pattern with support & resistance to show you how to trade the reversals correctly.
Confirm the downtrend first on your trading timeframe
The first step of this trading strategy is to confirm the trend of any underlying asset. Let’s trade the bullish engulfing pattern. So as discussed, we should be finding the downtrend on the price chart. As you can see in the below NZD/USD currency pair was in an overall downtrend.
Find out the Bullish Engulfing pattern on your trading timeframe
The key to successful trading is to follow all the rules of the trading strategy. The engulfing pattern can be seen all over the price chart, but obviously, we can’t trade all of these patterns. We should be trading only those engulfing patterns that appear in the major support area.
In the below image, the NZD/USD was in an overall downtrend, and price action respects the major support area. Market prints the engulfing pattern at the support zone, which indicates that the buyers are more likely to lead the price.
Entry, Take Profit & Stop loss
Enter the trade right after you see the bullish engulfing pattern at the S&R area. Take-profit targets depend on your trading style. If you are a swing trader or full-time trader, hold your positions for more extended targets. If you are an intraday trader, close your position at the nearest resistance area.
You can also book partial profits at a significant resistance area and close your full position when the market prints the bearish engulfing pattern. In this strategy, we took the buy at a significant support zone, so it’s a healthy practice to put stop loss just below the support area.
Look at the below image; you can see that price action goes above the significant resistance area. But we made sure to close our positions at the resistance area as we don’t want our money to be blocked in a single trade for a long time. Overall it was good 4R trade.
There are so many different ways to take trades to use the engulfing pattern. Statistically, the engulfing pattern works better when traded at the bottom or top of the trend. So make sure to check their location before placing the trades. One other possible way to trade am Engulfing Pattern is when it is combined with Moving Averages. But even that way, make sure to trade the engulfing pattern at the significant support and resistance areas. Some traders use reliable indicators like MACD to confirm the trend reversals by using the overbought and oversold levels. That’s about the Engulfing pattern strategy. Make sure to find these patterns and trade them in your upcoming trading activities. Let us know if you have any questions in the comments below. Cheers!