What is a bullish engulfing pattern? Your guide to calling the black-white candlestick sequence
A bullish engulfing pattern is a type of price chart pattern that indicates a bullish reversal in a security’s price performance. It is a popular technical analysis indicator used by traders to anticipate bullish uptrend in the price of an asset.
There are conditions to identify a bullish engulfing pattern so that such indicators can be used correctly. How do you identify and use a bullish engulfing pattern? And what are the significance of white and black candlesticks? Let us find out in the article below.
What is a bullish engulfing pattern?
A bullish engulfing candlestick pattern is a set of two candlesticks that indicate a bullish reversal in a security’s price. In a bullish engulfing pattern, the second candlestick closes higher than the opening price of the previous day after opening at a lower price than the previous day’s close.
The candlestick of the second day in a bullish engulfing pattern is a white candlestick. A white candlestick is a type of price chart pattern where the closing price is higher than the opening price for a given period. Today, most charts depict white candlesticks in green.
You can identify a bullish engulfing pattern by looking for a small bearish black candlestick followed by a large bullish white candlestick, which extends beyond the body of the former.
What is a black candlestick? A black candlestick is the opposite of a white candlestick. It is indicated by a closing price lower than its opening price but greater or equal to the closing price of the previous day.
How to use the bullish engulfing pattern?
Traders can use the bullish engulfing pattern to identify a change in market sentiment for a security. However, the pattern should be used alongside other indicators to anticipate future price movement of a security.
According to investment firm Nomura, a bullish engulfing pattern occurs after a significant downtrend in an asset’s price.
A valid bullish engulfing candlestick pattern must encompass the real body of the previous candle but need not surround the shadow, Nomura added.
Other conditions that indicate a valid bullish engulfing pattern are, according to Nomura:
The security must have been in a definite downtrend before a bullish engulfing pattern signal occurs.
The second day of a bullish engulfing pattern must be a white candlestick. Here the opening price of the second day must be lower than the closing price of the first day.
The closing price of the second day must be higher than the opening price of the previous day's black candlestick.
Example of bullish engulfing pattern
Let’s look at the recent price performance of the SPDR Gold Shares exchange traded-fund (ETF) to get a better understanding of bullish engulfing pattern definition.
The SPDR Gold Shares ETF tracks the performance of the price of gold bullion. It trades under the ticker ‘GLD’ and is one of the top ETFs in terms of assets under management in the world.
Looking at the recent price performance of GLD, it’s been on a downtrend since hitting a 19-month high of about $193 in early-March 2022.
Since then GLD slumped over 18% to $157.3 by 1 September 2022, its lowest since March 2021, hurt by a surging US dollar (USD) on the back of aggressive monetary tightening by the US Federal Reserve (Fed).
Following a definitive period of downtrend lasting nearly six months, GLD saw a bullish engulfing pattern formation on 7 September.
On 6 September, GLD opened at $159.7 and closed 0.6% lower at $158.3. On 7 September, GLD opened lower at $158.15 but rose 1% during the session to close at $159.94.
The candlestick formed on 7 September opened below the closing price of the previous day, but closed above the opening price of 6 September and 7 September. Additionally, the second-day candlestick engulfed the first-day candlestick meeting all the conditions for a valid bullish engulfing pattern.
The formation of a bullish engulfing pattern in the GLD chart could indicate that prices of gold may have bottomed out and suggest a reversal in investor sentiment for gold.
Bullish engulfing pattern vs bearish engulfing pattern
A bearish engulfing pattern is the opposite of a bullish engulfing pattern. It occurs after a significant uptrend in an asset’s price.
In a bearish engulfing pattern, an upward candlestick on the first day is engulfed by a larger, downward candlestick on the second day. The open price of the second day must be above the close price of the first day, but the close price of the second day must be below the open price of the first day. A bearish engulfing pattern indicates a weakening in investor sentiment for an asset.
Limitations of using bullish engulfing pattern
The use of a bullish engulfing pattern has its limits. Traders must not see it as a faultless indicator of trend reversal. Markets trade based on underlying factors, like investor sentiment and the macroeconomic environment, and can also react to unexpected company news, regulations and other events.
It can be tricky when interpreting bullish engulfing patterns in highly volatile market periods where price reversals are frequent and short-lived. Additionally, a bullish engulfing pattern may have better chances of extending an uptrend if the asset has undergone a significant period of downturn.
A trader should not depend on a single metric to anticipate the price movement of an asset. Moreover, it is important to acknowledge that markets are unpredictable. Risk management tools like stop-losses can be used to minimise risk. Remember that your decision to trade or invest should depend on your risk tolerance, expertise in the market, portfolio size and goals. Never trade money that you cannot afford to lose.
FAQs
How to find a bullish engulfing pattern?
You can identify a bullish engulfing pattern by looking for a small, bearish black candlestick followed by a large, bullish white candlestick that extends beyond the body of the former.
What are some examples of the bullish engulfing pattern?
Following a definitive period of downtrend lasting nearly six months, SPDR Gold Shares (GLD) saw a bullish engulfing pattern formation on 7 September. After closing at $158.3 on 6 September, GLD opened lower than its previous close on 7 September at $158.15 but closed the session at $159.94. The candlestick formed on 7 September encompasses the candlestick formed on 6 September.
How to trade bullish engulfing patterns?
Traders can use the bullish engulfing pattern to identify a change in market sentiment for a security. However, a bullish engulfing pattern should be used alongside other indicators to anticipate future price movement of a security.
Markets in this article
Related topics
