Traders buy or sell a currency pair based on their analysis. This can be fundamental or technical.
Fundamental analysis deals with interpreting the economies of the two currencies that make the pair. This is done via the economic data published daily/weekly/monthly. Traders know this data in advance.
However, the fundamental analysis considers macroeconomics, as well as geopolitical factors. From this point of view, it is complicated to trade the Forex market on a fundamental bias.
The ones that manage to do that are investors, or long-term traders, typically hedge funds that have bigger time-horizons for their trades. Not retail traders.
For retail traders, the focus is short and very-short-term oriented. They aim to make a profit as quick as possible, with no losing trade ever.
If this is even possible or not is a different story, however; retail traders use mostly technical analysis.
Technical analysis started from the Western part of the world with classical patterns everyone knows today; head and shoulders, ascending and descending triangles, rising and falling wedges, bullish or bearish flags, double and triple tops/bottoms…and the list can go on. However, in the last few decades, things have changed.
To the surprise of many, the Japanese had a technical analysis approach to markets as well. Moreover, it was so secretive, no one really knew much about.
The Japanese used so-call “candlesticks” for ages to forecast the price of the tuna fish. With computers, building a candlesticks chart became easy and just like that, all trading platforms in the world offered one.
Nowadays, candlestick charts represent the first choice when it comes to charting a market. Because of that, Japanese candlestick techniques were strongly embraced by the Western world.
Trading Morning and Evening Stars
The Japanese candlestick techniques deal mainly with trend reversal patterns. There are a few that consider price continuation, but the most powerful ones look for fading a trend.
Funny enough, all the Western technical analysis patterns listed above, fail to do that. While they do represent reversal patterns, the trading occurs well after a bottom or a top is in place. For this reason, they kind of lag the momentum.
It is not the same with Japanese candlestick techniques. Among them, the morning and evening stars stand out of the crowd.
Like the name suggests, these are bullish patterns (morning stars) or bearish ones (evening stars). In other words, for a morning star to form, a bearish trend should be in place. Consequently, an evening star follows a bullish trend.
A morning or evening star is a group of three candles. The 1st and the 3rd ones have a strong body, while the one in the middle is a small candle.
According to the Japanese, a candlestick has a body (typically it has a red color for a bearish candle or a green one for a bullish candle) that contains the price action from the opening to its closing. If the candle is on the daily chart, it shows the opening and closing prices on the day.
Besides the body, the shadow shows the highest and the lowest value. A morning star being a bullish pattern, the first candle has a strong red body, followed by either a hammer (this is a bullish individual pattern) or a doji candle (may show a reversal) and the last candle is a powerful one that has a green body.
Therefore, if you ever see a morning star pattern that doesn’t come after a bearish trend, you should disregard it. But if you see one, there are two things to do:
– The first one is to wait for the third candle to complete. But don’t go long at that point.
– Next, look for a retracement into 50% or even 61.8% from the lowest to the highest point of the last two candles. Then go long, having a stop loss at the lowest value and a take profit with a nice risk-reward ratio of 1:2.5 or even more.
In doing that, you’ll end up trading with a solid plan, having risk under control, and gaining leverage against a losing trade. Of course, everything from above is valid for an evening star pattern.
The only difference is that the pattern comes after a bullish trend, it has a hanging man (another pattern) as the 2nd candle instead of the hammer and traders should wait for a spike into 50% and 61.8% retracement levels.
If you come to think of it, it is normal for the market to pull back after the morning or evening star completes. After all, it is a powerful bearish or bullish trend and bears will fight with their lives to keep it alive.
The higher the time frame the pattern appears, the better, as it will survive the economic releases and the noise of day to day trading.