Developing a profitable stock trading strategy requires knowledge of how price trends move. Whether that strategy involved years of experience, or utilizing established price movement projection methods, a stock trading strategy needs to have a basis for entering and exiting trades. Candlestick signals provide a format that has been tested successfully for centuries. The signals work very successfully in their own right or it can be added to an existing successful trading program and dramatically enhance the results.

Understanding the investment psychology that forms the major signals provides an extremely powerful advantage when analyzing price trends. Utilizing this information creates a very easy-to-follow stock trading strategy. Price movements have very identifiable trading patterns or cycles. This is evident in the development of stochastics, Fibonacci numbers, Elliott wave theory, and a number of other technical patterns. This lends credence to the concept that prices move based upon investor sentiment, not on fundamentals. Prices move based upon investor perception of what the fundamentals will do. That was clearly evident going into the bubble of the year 2000.

The Japanese rice traders learned to exploit the oscillations of investor psychology. When the Candlestick signals are used correctly, they will produce a visual graphic of what is going on in a trend. What was the investor sentiment during the Thanksgiving week? Being able to visualize the investor perceptions during specific time periods creates an advantage. Understanding what a trend will do when seeing specific Candlestick signals produces an excellent format for a stock trading strategy.

Market Direction - Although the volume was lighter during the Thanksgiving week, the chart analysis on the Dow and the NASDAQ still provides some valuable information. Keep in mind, the candlestick signals are the cumulative knowledge of everybody that was buying and selling during a specific time frame. The fact that the volume was lighter during the holiday week does not change what the existing buyers and sellers were thinking.

As previously analyzed in the last week's newsletter, there were two evening Star signal formations that developed in the week prior to this past week. That was a clear signal that they sellers had stepped in. As seen in this past week of trading, there was nothing that would have negated the sell signals of the previous week.

EVENING STAR
(Sankawa Yoi No Myojyo)

Description
The Evening Star pattern is a top reversal signal. It is exactly opposite the Morning Star signal. Like the planet Venice, the evening star, it foretells that darkness is about to set or that prices are going to go lower. It is formed after an obvious uptrend. It is made by a long white body occurring at the end of an up-trend., usually when the confidence has finally built up. The following day gaps up, yet the trading range remain small for the day. Again, this is the star of the formation. The third day is a black candle day, and represents the fact that the bears have now seized control. That candle should consist of a closing that is at least halfway down the white candle of two days prior. The optimal Evening Star signal would have a gap before and after the star day.

Criteria

1. The up trend has been apparent.
2. The body of the first candle is white, continuing the current trend. The second candle is an indecision formation.
3. The third day shows evidence that the bears have stepped in. That candle
should close at least halfway down the white candle.

Signal Enhancements

1. The longer the white candle and the black candle, the more forceful the
reversal.
2. The more indecision that the star day illustrates, the better probabilities
that a reversal will occur.
3. A gap between the first day and the second day adds to the probability that a reversal is occurring.
4. A gap before and after the star day is even more desirable. The magnitude,
that the third day comes down into the white candle of the first day,
indicates the strength of the reversal.

Pattern Psychology

A strong up-trend has been in effect. The buyers can't imagine anything going wrong, they are piling in. However, it has now reached the prices where sellers start taking profits or think the price is fairly valued. The next day all the buying is being met with the selling, causing for a small trading range. The bulls get concerned and the bears start taking over. The third day is a large sell-off day. If there is big volume during these days, it shows that the ownership has dramatically changed hands. The change of direction is immediately seen in the color of the bodies.

What did the trading during the Thanksgiving week tell us? Although the trading was positive for the week, there was nothing yet that's show that the buyers had overcome the sell signals. Realizing that, being able to see what the market will do on Monday gives us a clear visualization of what the current trend could do. A positive open on Monday, followed by a strong up day, would indicate that the buyers had stepped in and negated the implications of the two Evening Star signals.

The Dow average formed a doji on Friday, one half- day of trading. Remember, one of the basic rules in candlestick analysis is that the trend will likely move in the direction of how the open occurs after a doji signal. This becomes an important factor when analyzing what the indexes might do going into next week.

On the other hand, a weaker open in the Dow on Monday should reveal that the doji on Friday represented the last fizzle of buying. A dark candle on Monday would confirm the sell signals and keep the stochastics in a downward bias.

Additionally, the NASDAQ also formed a doji on Friday, a gravestone doji. A gravestone doji at the top also represents a shooting Star signal. The fact that this indecisive signal occurred exactly at the recent high of last week is significant. Stochastics, although they have turned slightly upwards, are in the condition of moving in the direction of how prices move early next week. The gravestone doji occurring right at the recent high makes for an easy analysis.

The NASDAQ

A higher open, followed by continued buying, would indicate the formation of a Jay-hook pattern and that we should see prices continue higher. On the other hand, a gravestone doji at the recent top, followed by a dark candle on Monday, would become a clear indication that a double top had been formed and the sellers were now back in control. That would give rise to closing out the long positions that appear to have topped out and adding more short positions to the portfolio.

Having the ability to analyze what could be happening at this critical point allows the candlestick analyst to prepare a strategy. Additional analytical factors can be added to the evaluation. Crude oil prices, which have been a significant influence on equity prices, are also at a critical stage. As projected in last week's newsletter, crude oil prices have come back up and tested the 50 day moving average. The prices at this important trading level can also help evaluate what the stock market might do from here. A lower open in crude oil prices, showing that it was backing away from the 50 day moving average, and continuing the downtrend, could be a bullish stimulant for the stock market. However, crude oil prices moving up through the 50 day moving average would be another factor for the stock market to pullback. Fortunately, those indicators can be seen immediately at the opening on Monday morning.

Exuberance at the top – El Paso Corp. was a recommendation on the site on October 25, 2004. It formed a bullish signal a few days earlier right on the 50 day moving average with the stochastics in the oversold area. Notice how this price used the 50 day moving average as a support level.

Do Candlestick signals always provided big upside potential? Definitely not! However, they do put you in the positions that have the opportunity to produce the big profits. The candlestick signals put you in situations where the probabilities are in your favor. This is not rocket science. This is the evaluation produced by centuries of visual observation.

The EP chart is the example of why you need to see a severe sell signal confirmed to demonstrate that an uptrend is at an end. Where does investor confidence become the greatest? The longer the uptrend continues, the more severe the “sell” signal needs to be to indicate a reversal of the trend. When should you be looking for “sell” signals? When you see the exuberant buying at the top. The basis of candlestick analysis is to take the high profit potential, fat part of a trend. The purchase of El Paso Corp. in the $8.80 area has now produced over a 30% profit over the last month. The exuberant buying over the last two trading days now provides an alert for looking for a Candlestick sell signal.

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Members Special - Download your free video “Morning Star and Evening Star signal”. This 45 minute video analyzes the signals in depth on how and where these signals work most effectively for identifying trend reversals. As you go through the training CD, Steve Bigalow will explain in clear fashion what confirming indicators makes the Morning Star and Evening Star signal perform with an extremely high degree of accuracy. Make analyzing price trends easy by knowing all the nuances that make a major signal effective.

Good Trading,

- The Candlestick Forum Staff

www.candlestickforum.com