The Evening Star candlestick is a three-candle pattern that signals a reversal in the market and is commonly used to trade forex. Correctly spotting reversals is crucial when trading financial markets because it allows traders to enter at attractive levels at the very start of a possible trend reversal.
This article explores the following talking points:
- What is an Evening Star candlestick?
- How to Identify an Evening Star on forex charts
- How to trade the Evening Star candlestick pattern
- The reliability of the Evening Star in forex trading
WHAT IS AN EVENING STAR CANDLESTICK?
The Evening Star pattern is a three-candle, bearish reversal candlestick pattern that appears at the top of an uptrend. It signals the slowing down of upward momentum before a bearish move lays the foundation for a new downtrend.
HOW TO IDENTIFY AN EVENING STAR ON FOREX CHARTS
Identifying the Evening Star on forex charts involves more than simply identifying the three main candles. What is required, is an understanding of previous price action and where the pattern appears within the existing trend.
- Establish an existing uptrend: The market should be exhibiting higher highs and higher lows.
- Large bullish candle: The large bullish candle is the result of large buying pressure and a continuation of the existing uptrend. At this point traders should only be looking for long trades as there is no evidence of a reversal yet.
- Small bearish/bullish candle: The second candle is a small candle – sometimes a Doji candle – that presents the first sign of a fatigued uptrend. Often this candle gaps higher as it makes a higher high. It does not matter if the candle is bearish or bullish as the main takeaway here is that the market is somewhat undecided.
- Large bearish candle: The first real sign of new selling pressure is revealed in this candle. In non-forex markets, this candle gaps down from the close of the previous candle and signals the start of a new downtrend.
- Subsequent price action: After a successful reversal, traders will observe lower highs and lower lows but should always manage the risk of a failed move through the use of well-placed stops.
Traders will often look for signs of indecision in the market where buying pressure subsides and leaves the market somewhat flat. This is the ideal place for a Doji candle to appear.
Evening Star Doji
Doji candles can be observed as the market opens and closes at the same level or very close to the same level. This indecision paves the way for a bearish move as bears see value at this level and prevent further buying. The appearance of the bearish candle after the Doji provides this bearish confirmation.
WHAT ABOUT THE MORNING STAR
The bullish version of the Evening Star is the Morning Star and it signifies a potential turning point in a falling market (bullish reversal pattern). The same analysis applied to the Evening Star can be implemented with the Morning Star however, it will be the opposite direction.
HOW TO TRADE THE EVENING STAR CANDLESTICK PATTERN
The Evening Star pattern can be observed in the EUR/GBP chart below, where there is an established uptrend leading up to the formation of the reversal pattern.
Looking at the chart, once the formation has completed, traders can look to enter at the open of the very next candle. More conservative traders could delay their entry and wait to see if price action moves lower. However, the drawback of this is that the trader could enter at a much worse level, especially in fast moving markets.
Targets can be placed at previous levels of support or previous area of consolidation. Stops can be placed above the recent swing high, as a break of this level would invalidate the reversal. Since there are no guarantees in the forex market, traders should always adopt sound risk management while maintaining a positive risk to reward ratio.
When trading the Evening Star on forex markets, the price will very rarely gap like they do with stocks and so the three-candle pattern usually opens very close to the previous closing level.
HOW RELIABLE IS THE EVENING STAR IN FOREX TRADING?
The Evening Star, like most candlestick patterns, should be assessed in line with the current trend and whether there is supporting evidence in favour of the trade, when looking at an indicator. Below are the advantages and limitations of the Evening Star pattern:
|Occurs frequently in the forex market||A failed reversal is possible, and price could move further up|
|The pattern presents well-defined entry and exit levels|
|Evening Stars are easy to identify|