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Trading the Bullish Engulfing Candle

What is the Bullish Engulfing Candle Pattern?

Candlestick patterns are an excellent way for traders to look for areas of strength and weakness. In particular, identifying reversal points with candlestick patterns is a way traders can gain an edge in the market.

One of the most effective patterns for doing just that in forex trading is with the bullish engulfing pattern.

The bullish engulfing pattern is a candlestick pattern that is highlighted by a strong green candle that encompasses (engulfs) the prior red candle.

Forex Bullish Engulfing Pattern Trade Example

Bullish Engulfing Candle Pattern

 

Generally speaking, the bullish engulfing candle pattern will feature a lower open and a higher close as measured by the candlestick. However, the fact that the green candle is required to open lower than the prior red candle is not as important as the fact that the green candle closes significantly stronger and higher.

The bullish engulfing candle pattern is an indicator that the bulls are seizing back control and we could be on the verge of a reversal. This pattern generally is found at the bottom of a downtrend and marks the first point in a turnaround to more bullish price action.

The fact that the body of the green bullish engulfing candle is larger than the prior red candle indicates a number of things. Firstly, there is a change in sentiment. The price had been falling away and now something has changed. That means the buyers are now more positive and have taken control.

The second point is that there is likely also more volume coming in that has led to the outsized moved. As we know, price is ultimately moved by volume, so when we see larger moves, for the most part it is due to a larger volume. And when the larger volume is present there is a higher probability that we will see a follow-through in the direction of the move. So in this case, in the direction of the bullish engulfing pattern.

This pattern is also highly effective in reverse and is known as the bearish engulfing candle pattern and features an attempt to push higher followed by the bears seizing control and ultimately a strong red candle with a lower close.

 

Bullish Engulfing Candlestick Tail

A less obvious factor but one that is also important is the length of the tail or the wick. The tail is generally considered as the area between the open price and the low of the candle.

While we generally consider a bullish engulfing candle pattern to be one where the open is lower and the close is higher than the previous bar, we can also get a lot of information about the length of the tail.

When we see candles that have long wicks, they are also strong indicators of a reversal or trend. What’s going on is that the bears have been pushing the price down, but when they got to a certain price, the bulls swept in and quickly bid that price back up. So fast, in fact, there was a sharp move between the open and the low, that got rejected.

So for forex traders of the bullish engulfing candle pattern, when you see a long wick on the tail of a candle, that should give you even more confidence that the bulls are back in control and that there is a good chance of some follow-through to the upside.

 

Increasing the Odds of Success with the Bullish Engulfing Pattern

Another consideration when trying to identify potential bullish engulfing patterns is to try and stack multiple factors (or indicators) in your favor.

One of the best ways to trade the forex with the bullish engulfing pattern is to incorporate areas of support and resistance into your analysis.

When price attempts to break a key support level, whether that’s a round number level or a prior low for example, and fails, whilst making a bullish engulfing candle pattern, we can assume that the odds of this level holding will be even higher.

That should give forex traders even more confidence to maintain a bullish bias after the close of the green bullish engulfing candle.

Another interesting indicator that we can use to help increase the odds of success, is when the bullish engulfing pattern coincides with a key moving average. So for example, if we see the forex bullish engulfing pattern right on a support level created by say a 200 period moving average, a common round number moving average than many forex traders are watching, then we can assume that the odds of success will also likely be higher.

 

Risk and Reward with Bullish Engulfing Pattern

One of the big advantages of using candlestick patterns in trading forex is that we can quickly and easily assess our risk and reward situation.

When we look at the bullish engulfing pattern, it is clear that if price breaks through the lows of the green candle, then our thesis is wrong and we can quickly and easily exit the trade.

If our thesis is in fact correct that we can set a profit target at a position above the close of the green bullish engulfing pattern, that is commensurate with the risk we are taking. For example, if we are seeing that the difference between the close of the green bullish engulfing candle is 30 pips from the low, then we would want to be able to identify a suitable profit target that provides at the very least a 1:1 risk-reward and perhaps even multiples of that number.

For that reason, it is important to look to see where other round number levels and longer-timeframe resistance levels sit, prior to entering a long position, even if you see the bullish engulfing pattern.

 

Forex Bullish Engulfing Pattern Trade Example

The example below is an excellent example of the bullish engulfing pattern in practice. As you can see, price had been pushing lower in the GBP/USD and was nearing a prior support level.

The bears were in control in the short-term and attempted to run through that support level. However, the bulls stepped up and seized control.

This was marked by the bullish engulfing pattern, where the green candle opens lower than the prior red candle, then completely engulfs it, by closed higher. Making a strong green bullish engulfing candle pattern.

From this point, price pulled back initially on the close of the candle, before accelerating away right into a key round number level at 1.2500.

In this example, our entry point could have been the close of the green candle at 1.2350, with our risk below the lows of the green candle at 1.2285.

While our profit target was far better than 1:1 with the 1.2500 being the next obvious resistance area on the charts.

In this example, the bullish engulfing pattern was strengthened by the fact that there was a key support level below at 1.2275, making this a multiple factor setup.

Forex Bullish Engulfing Pattern Trade Example 

Forex Bullish Engulfing Pattern Trade Example 

In this trade, you could have potentially earned a 150 pip profit and risked less than 60 ticks in the process making this a 2.5:1 risk to reward.

And what made this even better was the fact that we had a defined risk level, that was coupled with a strong prior support region.

Whenever we stack factors and manage risk, we are well on our way to profitable trading and that is something we are able to do with the bullish engulfing candle pattern.

About the author

Rowan Crosby // Asia-Pacific Analyst
Rowan Crosby is a professional futures trader from Sydney, Australia. Rowan has extensive experience trading commodities, bonds and equity futures in the Asian, European and US markets. Rowan holds a Bachelor of Finance and Economics degree and is focused heavily on Investment Finance and Quantitative Analysis.