Chart 101|#7: The Engulfing Candlestick Pattern – How Does It Work?

My goal for today is getting you to understand how the Engulfing Candlestick Pattern works.

The Engulfing Candlestick Pattern is a major reversal indicator that is comprised of 2 opposite coloured bodies.

This 2 candle pattern(Red and Green) is one of the most powerful indicators of a change in trend.

The trend can either be bullish or bearish.

So in the post of today, you will learn how these candlestick patterns work and also, how to combine it with the other crypto trading indicators.

Just prepare your mind for the learning experience of a lifetime.

If you are ready, let’s get started immediately.


Post Summary

This part of the post contains the main points that the discussion of today will be based on. They include:

Click on any of the points to view its contents.

**Heads up!!

This is the very last post(#7) in the Chart 101 series.

For a complete understanding of the series, read in this order:

  1. Crypto Trading Indicators – What are They?
  2. Fibonacci Retracement – Is It Reliable?
  3. Moving Average Convergence Divergence(MACD) – A Complete Analysis
  4. Bollinger Bands – How Good Is This Indicator?
  5. Relative Strength Index(RSI) – An In-depth Review
  6. The Moving Average(MA) Analyzed – What You Need to Know
  7. Engulfing Candlestick Pattern – How Does It Work?(Today’s post)

Happy reading!


What is the Engulfing Candlestick Pattern?

The Engulfing Candlestick Pattern is one of the crypto trading indicators that is used to detect a change in trend.

Here, the second candle completely ‘engulfs’ the real body of the first one; not minding the length of the tail.

Engulfing Candlestick Pattern(because it makes use of candles) is a useful crypto trading tool that you can easily work into an active trading strategy.

Each candle contains information about 4 prices: the high, the low, the open and the close.

The wide part of the candlestick is called the real body and the thin end is known as the wick/tail.

A candle body reflects the net price movement between open and close while the wicks show reversals that occurred within the timeframe of the candle.

Each candlestick, therefore, provides a clear picture of the price action.

The length of the wick versus the length of the body in combination with whether a candle is bullish or bearish can be used to determine a signal for the price action to come.

There are different candlestick patterns in the crypto world. I will deviate a bit from the main topic and talk about that.

Just scroll down and read about them.


Different Candlestick Patterns

I divided the candlestick patterns into:

  • Simple patterns
  • Complex patterns

Simple Patterns

They are called Simple Patterns because they all consist of one candlestick each. Some of the patterns include:

1. Red/Black Body: This is formed when the opening price is higher than the closing price and is considered to be a bearish signal.

Red/Black body trading candle

2. Green/White Body: It is formed when the closing price is higher than the opening price and considered a bullish signal.

green/white body candle

3. Doji: You have these when the opening and closing prices are virtually the same. The lengths of the wicks can vary.

doji trading candle stick

4. Hammer: This is a green or a red candlestick that consists of a small body near the high with a little or no upper shadow and a long lower tail. This is considered a bullish pattern during a downtrend.

hammer candle

5. Hanging Man: Oh…no, you don’t have to hang anyone. It is any green or a red candlestick that consists of a small body near the high with a little or no upper tail and a long lower tail. Considered a bearish pattern during an uptrend.

hanging man candle

6. Shooting Star: Here, you have a green or a red candlestick that has a small body, a long upper tail with a little or no lower tail. Considered a bearish pattern in an uptrend.

shooting star candle

7. Spinning Top: A green or a red candlestick with a small body. The size of the tails can vary.

spinning top candle

Complex Patterns

The Complex Patterns (as the name implies) have more than one candlestick making up the pattern.

1. Rising Window: Here, a window (gap) is created when the low of the second candlestick is above the high of the preceding candlestick. It is considered that the gap should provide support to the selling pressure.

2. Morning Star: This consists of a large red body candlestick followed by a small body (red or green) that occurred below the large red body candlestick and a third green body candlestick. It is considered a major reversal signal when it appears at the bottom.

3. Bullish Harami: Consists of an unusually large red body followed by a small green body (contained within a large red body). It is considered as a bullish pattern when preceded by a downtrend.

4. Bearish Harami: Consists of an unusually large green body followed by a small red body (contained within a large green body). It is considered as a bearish pattern when preceded by an uptrend.

Detour over…Let’s get back to our main discussion.

Now, we will look at the 2 Engulfing Candlestick Patterns.


Bullish and Bearish Engulfing Candlestick Pattern

In trend determination, the trend can be bullish or bearish.

Bullish Engulfing Candlestick Pattern

A Bullish Engulfing Candlestick Pattern is normally found at the end of a period of downward market pressure.

This pattern normally occurs during a downtrend and is thought to signal the beginning of a bullish trend.

Pictured above, you can see the pattern itself which is comprised of two completed candles.

The first candle(Red) will depict the end of the currency pair’s established weakness. The size of this primary candle can vary from chart to chart and is not directly pertinent to the engulfing pattern.

The second candle(Green) is the most important. It signals a return to the bullish market. This candle is expected to stick out from price action as a long green candle creating new upward price momentum. 

To be considered a complete bullish engulfing candle, the high of this green candle should close well above the high of the previous candle. 

The higher this secondary candle rises, the stronger the signal is considered. 

A new push of upward movement in this position on the chart reflects new buyers overtaking the previous strength of the sellers.

This action can be used in conjuncture with an established uptrend, with buyers looking to enter the market on new strength.

In Crypto Trading

Once a Bullish Engulfing Candlestick Pattern is identified, traders have the option of considering a variety of trading strategies.

While it is not uncommon to see traders execute on a candle pattern or price action alone, they can also be used in conjuncture with an oscillator such as RSI to give further confirmation of the reversal.

The low of a bullish engulfing pattern can also be used as an area of price support in an uptrend.

Regardless of the method chosen to pick a market entry, traders may choose to place stop orders under this price level in the event that the market retraces towards lower lows.

Bearish Engulfing Candlestick Pattern

Engulfing candlestick pattern

A Bearish Engulfing Candlestick Pattern is a chart pattern that signals lower prices to come. It is normally found at the end of an upward market trend.

This pattern normally occurs during an uptrend and can be said to signal the beginning of a bearish trend.

As pictured above, this pattern consists of an up green/white candlestick followed by a large down red/black candlestick that covers the smaller up candlestick.

A Bearish Engulfing Candlestick Pattern can occur anywhere but it becomes more significant if it occurs after a price advance.

This can either be an uptrend or a pullback to the upside with a larger downtrend.

In Crypto Trading

Once this pattern is identified, it shows traders that sellers have overtaken the buyers.

In other words, the sellers are pushing the price down (red candle) more than the buyers were able to push it up (green candle).

But this pattern has far less significance in turbulent markets owing to many fluctuations.

Ideally, both candlesticks are of substantial size relative to the price bars around them.

Though 2 very small candlesticks may create an engulfing pattern, it is of less significance than when both candles are large.

The real body of the candlesticks is what matters. That of the down(Red) candle must engulf the up(Green) candle.

Now that you’ve gotten the knowledge of the types of Engulfing Candlestick Patterns, let’s see how they are used in combination with other indicators while trading cryptos.


Combining the Engulfing Candlestick Pattern with Other Indicators

The saying: ‘one is good but two is better’ is very much true for crypto trading indicators.

You tend to get better results when you combine indicators.

Some of the indicators you can combine the Engulfing Candlestick Pattern with include:

  1. Relative Strength Index(RSI)
  2. MACD
  3. MA

Relative Strength Index(RSI)

Engulfing candlestick pattern

The Relative Strength Index(RSI) is an oscillator indicator. This simply means that it points out overbought and oversold conditions.

The RSI, when supported by an Engulfing Candlestick Pattern, can influence your entry if identified correctly.

An engulfing candle combined with the RSI moving below 30 could serve as a Buy signal.

Using a combination of indicators such as this can increase the confidence level of a trader when taking a position.

In the picture above, you will notice the movement of the RSI below level 30 before the formation of the bullish engulfing candlestick pattern.

After the formation, there followed a reverse movement of the RSI above level 30 and the market trend.

This order is not always the case, but sometimes when noticed can help boost confidence in an entry position.

Moving Average Convergence Divergence(MACD)

The Moving Average Convergence Divergence(MACD) indicator is used to identify moving averages that are indicating a new trend, whether it’s bullish or bearish.

The indicator works as follows:

  • When the MACD line crosses above zero, it is considered bullish while crossing below zero is bearish.
  • When the MACD line turns up from below zero, it is considered bullish while from above it is considered bearish.
  • When the MACD line crosses from below to above the signal line, the indicator is considered bullish. The further below the zero-line it goes, the stronger the signal.
  • When the MACD line crosses from above to below the signal line, the indicator is considered bearish. The further above the zero-line it goes, the stronger the signal.

Moving Average

Moving Average(MA) is an indicator that is used to represent the average closing price of the market over a specified period of time.

There are 3 ways in which traders use the MA:

  • Trend determination
  • Find Support and Resistance levels
  • Determine crossovers

When trading Engulfing Candlestick Patterns with an MA, use the distance between the candlesticks and the EMA to judge the momentum.

In the diagram below, the gap between the candlesticks and the EMA highlighted the bearish momentum.

Let’s now look at some of the questions frequently asked about Engulfing Candlestick Pattern.


Frequently Asked Questions(FAQs)

What is the best timeframe for candlesticks?

Most of these candlestick patterns form over 1-3 days making them short-term patterns that stay valid for 1-2 weeks.
But know it that these candlestick patterns are trying to reverse an existing trend, usually a short-term trend that is a few weeks old.
The bullish candlestick patterns form in short-term downtrends, while bearish candlestick patterns form in short-term uptrends.
Do not hope for a long-term trend reversal from a candlestick pattern.

Are there any rules for using the Engulfing Candlestick Pattern?

Yes, there are a few.
1. First of all, you have to check out the trend of the market. Always trade in the direction of the trend.
2. Check out for the support level as this will help you find a strong ‘Buy’ period. You can use the Fibonacci Retracement level indicator or check out for round numbers to help you find a powerful support and resistance level.
3. Enter the trade right after you see the Bullish Engulfing Pattern at the support and resistance area. Depending on your trading style, you can hold your position or close it at the nearest resistance area.

Is the Engulfing Candlestick Pattern reliable?

Spotting price reversals and continuations is an important skill to master in the crypto trading market.
Through price action analysis, traders have learnt to use the Engulfing Candlestick Pattern to better navigate the market. 
The signal deduced from this indicator is reliable to a great extent. But as I will always point out, no single indicator is all-encompassing and assures you will trade profitably.
Better results are gotten when used in combination with other indicators.


Conclusion

The Engulfing Candlestick Pattern is one indicator used vastly by many traders(cryptos and other commodities).

You don’t have to fetch it from the ‘Indicators’ corner before using; the candles are already there on the chart engulfing and de-engulfing one another.

Once you stick to the rules and do the needful of combining it with other indicators, you are set on your way of a profitable trade.

And that brings us to the end of today’s post.

I hope my goal of putting you through on how this indicator works was achieved?

Well, I won’t know till I hear from you.

So tell me:

Have you used this indicator before or you are yet to try it out? I will want to hear how the trade went.

Which of these is your fave combo: Engulfing Candlestick and RSI, MACD and Engulfing Candlestick, or MA and Engulfing Candlestick?

Or do you any questions for me?

Just let me know in the comment section below.

And just so you know, those share buttons below are still very functional. You only need to click on them and you would’ve helped someone on your timeline.

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