What is the Evening Star Candlestick Pattern?

Evening Star Candlestick Patterns help traders identify ideal exit levels in the forex market by signalling a slowed upward momentum and strengthened downward momentum. This pattern occurs very frequently in charts, hence, they are easily identifiable by traders to place exit orders before the market reverses. In this article, we learn all about the Evening Star Candlestick Pattern and how you can trade them.

 

Understanding the Evening Star Candlestick Pattern

An Evening Star Candlestick Pattern is a technical indicator that consists of three candlesticks that help in identifying bearish market reversals. It appears at the top of an uptrend and provides traders with ideal exit price levels in the market. The Evening Star Pattern consists of three candlesticks

• A large bullish candlestick that signals a continuous rise in the currency pair prices
• A smaller bullish candlestick that signals a moderate increase in the currency pair prices
• A large bearish candlestick that opens below the previous day’s price level and signals a bearish market reversal

How does an evening star work?

The evening star is a three-candlestick pattern used in technical analysis to identify a potential bearish reversal in an uptrend. It consists of three candlesticks –

1. First candle: A large bullish candle, indicating a continuation of the uptrend.
2. Second candle: A small, indecisive candle, often a doji, signaling a pause or indecision in the market.
3. Third candle: A large bearish candle that opens below the previous day's low, indicating a potential reversal.

The evening star candlestick pattern suggests that the market is losing momentum and may be preparing for a downward trend. It is considered a relatively strong bearish reversal pattern, but it should be used in conjunction with other technical indicators to confirm the signal.

Example of an evening star candlestick pattern

Let's consider a hypothetical example using the USD/EUR currency pair. 

Day 1: The USD/EUR pair opens at 1.1000. A strong bullish candle forms, closing at 1.1200. This indicates significant buying pressure in the market.

Day 2: The pair opens at 1.1200 but remains within a narrow range throughout the day. A small doji candle forms, closing near the opening price. This suggests indecision among traders.

Day 3: The pair opens below the previous day's low at 1.1180. A long red candle forms, closing at 1.1050. This indicates a strong bearish reversal, as the price has broken below the support level established by the previous day's low. 

In this example, the evening star candlestick pattern suggests that the previous uptrend may be losing momentum and could potentially reverse into a downtrend. Traders might use this pattern as a signal to consider exiting their long positions or initiating short positions.

How to identify the Evening Star Candlestick Pattern for forex trading?

 

1. Identify a prior uptrend

A prior uptrend can be identified when the current currency pair prices are trading at a higher high and higher low level.

2. Identify the three candlesticks occurring consecutively

The Evening Star Candlestick pattern always consists of three consecutive candlesticks (two bullish and one bearish).

• The large bullish candlestick will appear as the first candlestick in the pattern, which will be a result of heavy buying pressures from the buyers due to a continued uptrend. Traders at this point will long their trades as no reversal is expected yet.
• The small bearish candlestick will be the first sign of the currency pair prices opening and closing near to each other, with the trading price range narrowing down. This will be the first sign of a weak uptrend as prices will only increase moderately. This is the first point of market indecision, which is only confirmed after the third candlestick appears.
• The large bearish candlestick is the first signal of heavy selling pressure that confirms the downtrend reversal in the market. At this point, more and more traders place a sell order to exit the trade.
  
  

3. Identify the continued price action

The last step in identifying an Evening Star Candlestick Pattern is the subsequent price action that occurs after the three candlesticks take place in the price chart. Once the prices reverse and traders place exit orders, lower lows and lower highs currency pair prices are observed in the market, signalling traders that from hereon, the market is going to witness a downtrend until there is another market reversal.

 

How to trade with an Evening Star Candlestick Pattern

 

Step 1: Set a chart time frame

Set an hourly or weekly chart to identify the three candlesticks in the pattern. This is because a long-term chart is a better depiction of the candlesticks and where the market is supposedly headed, providing you with ideal reversal signals.

Step 2: Analyse the open, close, high and low prices

Pick a particular section in the chart and analyse the currency pair’s open, close, high and low prices during the trading time. The Evening Star Candlestick Pattern can be recognised right where there are two bullish candlesticks, the first one being significantly larger than the second and one bearish candlestick, marking the reversal signal. Once you have studied the different prices properly, you will be in a better position to understand the market momentum.

Step 3: Use the RSI indicator

The Relative Strength Index combined with the Evening Star Candlestick Pattern, helps traders identify overbought levels in the market. These levels confirm traders about the reversal signal and place exit orders accordingly. Wait for the RSI to cross 70 and compare it with where the Evening Star Candlestick Pattern occurs. If they are both occurring simultaneously, the reversal signal is confirmed.

4. Restrict the time frame

Once the overbought area is identified along with the Evening Star Candlestick Pattern on a longer time frame, it is time to now focus on a shorter time frame. You can cut down the time frame to a 5-minute or 15-minute chart as it is neither too slow nor too fast. Restricting the time frame to a shorter level will provide you with the exact price levels where you can place the exit or sell orders.

5. Place stop loss and take profit orders

A stop loss level is the price level at which your trades are automatically exited when the market turns against you. You can either place your stop-loss order right above your entry price or at RSI’s level 30 to limit losses. On the other hand, take profit orders can be placed right below the bearish candlestick or at the opening level of the candlestick that occurs as a downtrend begins.

6. Monitor and exit trades accordingly

After you have identified the Evening Star Candlestick Pattern, compared it with the RSI levels and placed the stop loss and take profit orders, it is time for you to sit back and monitor the price chart closely. Look for the uptrends and reversals to ensure that you exit trades on time.

*This is an example only to enhance a consumer's understanding of the strategy being described above and is not to be taken as Blueberry providing personal advice.

Advantages and risks of an evening star pattern

Advantages

Strong bearish reversal signal

The evening star candlestick pattern is an indicator of a potential bearish reversal in an uptrend. The combination of a long green candle, a small doji, and a long red candle suggests a significant change in market sentiment and a potential shift from bullish to bearish momentum.

Easy to identify

One of the advantages of the evening star candlestick pattern is its simplicity. Traders of all experience levels can easily recognize the pattern by observing the three distinct candlesticks and their relative positions. This accessibility makes it a usable tool for both novice and experienced traders.

Can be combined with other indicators

The evening star candlestick pattern can be used in conjunction with other technical indicators to enhance its reliability and provide additional confirmation of a potential reversal. For example, traders might combine the evening star with moving averages, support and resistance levels, or relative strength index (RSI) to increase confidence in their trading decisions.

Potential for early entry

One potential advantage of the evening star candlestick pattern is that it can provide an opportunity for traders to enter a short position relatively early in a developing downtrend. By recognizing the pattern and acting promptly, traders may be able to capture a portion of the potential downward move before it fully unfolds.

Risks 

False signals

While the evening star candlestick pattern is a strong indicator, it's not infallible. Like any technical pattern, it can generate false signals, leading to incorrect trading decisions and potential losses. It's crucial to use the pattern in conjunction with other analysis techniques and to exercise caution when interpreting its signals.

Context-dependent

The accuracy of the evening star candlestick pattern can vary depending on the overall market context and other factors. For example, the pattern might be less reliable during periods of high volatility or in markets that are experiencing a significant trend. It's essential to consider the broader market environment when evaluating the significance of the evening star.

Limited predictive power

The evening star candlestick pattern only indicates a potential reversal and does not confirm a downward trend. It's important to remember that markets can be unpredictable, and even a strong reversal signal may not always lead to a sustained price movement in the predicted direction. Traders should always use stop-loss orders and other risk management techniques to protect their capital.

Overlapping patterns

The evening star candlestick pattern can sometimes overlap with other candlestick patterns, such as the Three Crows or the Shooting Star. When these patterns occur simultaneously, it can create conflicting signals and make it difficult to determine the direction of the market.

What is an evening star doji candlestick pattern?

An evening star doji candlestick pattern is a specific variation of the evening star candlestick pattern where the second candle is a doji. A doji is a candlestick with a small or no body, indicating indecision or balance between buyers and sellers.

The evening star doji pattern is considered a strong bearish reversal signal due to the indecision indicated by the doji candle. However, it is still important to use this pattern in conjunction with other technical indicators to confirm the signal. Follow these steps to trade with an evening star doji candlestick pattern –

1. Identify the pattern: Look for a large bullish candle followed by a small doji and a large bearish candle.
2. Confirm the formation: Ensure the doji is completely engulfed by the other two candles.
3. Consider the context: Evaluate the market trend and use other indicators for confirmation.
4. Enter the trade: Short the market at the close of the bearish candle.
5. Set stop-loss: Place a stop-loss below the low of the first candle.
6. Monitor the market: Watch for confirmation signals and be aware of potential false signals.

Trade with the Evening Star Candlestick Pattern

It is important for traders to know when the market is going to potentially reverse as it helps them take important trading decisions accordingly. You can start trading with Blueberry to enjoy a seamless trading experience and make the most out of the Evening Star Candlestick Pattern.