Learn how to trade hammer pattern and shooting star candlestick – risk management principles

Find out what is the meaning of shooting star candlestick and hammer candlestick in our latest video on how to trade hammer pattern and shooting star candlestick

How to trade hammer pattern and shooting star candlestick for extreme trends

Hello, everyone! Today, we are going to review a strategy based on the Candlestick patterns and one of the more basic strategies that we are covering in this video, it’s a strategy that focuses on trading to extreme trends, so, more or less, what are looking for is to identify when is the right point when the trend show turn and go in the opposite way. We are not really looking for this strategy to identify and actually to find a point where the trend is going to completely reverse and looking for 200-300 pips move. Not really, what we are trying to find is we are trying to look for the start, from the actual point where the trend may start reversing or at least make a correction. But given that we follow basic risk management principles in the context of risk-reward, then we are not looking to trade weekly, daily charts, looking for 400-500 pips.

So the first step in order to implement this strategy will be to identify a trend. So, when you look at this chart, I prepared two charts. The first chart is a four-hour chart Dollar/Yen. If you look at this chart you see that we’re trading sideways, but more or less, we are also creating lower highs and lower lows. You can see here, a high, then a lower high, a lower high, a lower high. Again, it’s not really a very steep downtrend, but still, as long as we are creating lower highs here, and here lower lows, you see one lower low, second, third, four lower low, then we identify this as a mild downtrend. The second thing that we are looking here, or let’s say, indicator is we are then, starting to look more focused on specific segments of price action.

So, for example, you can see here that we had sideways trading and then, from here, this is an important level, 109.40, you can see that we fell down and we fell 115 pips to the downside very quickly in, let’s say, half of a trading day. And then, here, this is the candle that we are looking for. So, when we are falling here, when we are falling down, now we are looking for a point where the price is going to reverse and we are going to see a correction. Obviously, this example shows that we had a very, very big correction, actually we almost created a new high here. But, at this point we are only looking for this candle, which is a key, it’s a Hammer Candlestick Pattern, which means that the open is higher than the, I’m sorry, the close is higher than the open. And not just that, but actually, the price, when this candle opened, the price started pushing lower. And then, before the Candlestick was actually formed, we closed near high and we have a Hammer Candlestick pattern. It’s a bullish Candlestick pattern. And it usually is a signal that the downtrend is finished, or is close to be finished since the bulls are regaining control.

So, this would be, actually, the most important part of the strategy, as soon as you have this candle, then you may want to enter a long trade. If you want to have a confirmation, there are two confirmation indicators to look out for. The first one, if you can identify the support level like we have identified this trendline here, then you can see that we went below the trendline, but we couldn’t close, we closed above, this is usually a very bullish sign, and we saw a push higher. The second validation indicator will be the candle after the Hammer candle. If it’s a big green candle like it’s here, it means that the bulls are now fully in control and we may see a leg higher.

Here, you can also see the same thing. This is even a better example, on the same chart. So we had a big fall from  109.40 to 107.40, It’s a 200 pips move. You can see, consequent red candles and then you see here a perfect example of Hammer, so huge weak down, long weak down, you can see that opened at 107.70 and then we pushed 40 pips lower, but we actually closed near the high, and then we created a Hammer, which pushed the price higher and actually it was a multi-weak low, since after this we pushed a couple of hundreds of pips higher.

The second extreme now, on the other side is a Shooting Star. So, we have a Hammer, when we are trending bullish side and we have a Shooting Star we want to trade bearish side. So, what is a Shooting Star? This is a Shooting Star here, this candle here. Ideally, this candle here would be a red candle, but as long as we have a long weak to the upside and we closed nearer or closer to the downside, then, actually, it’s a Shooting Star. Again, we have a  validation point, we have a huge horizontal resistance here. You see that we had one touch, second touch, third touch and then, when we tried to go above this trendline and clear stops above this horizontal resistance, we actually were rejected, because at one point, obviously, we traded somewhere here. So, let’s say 10 pips above this line and then we were rejected and then we pushed back 25 pips lower, which immediately put additional pressure for the bulls, and of course, here also, we have a second validation indicated, that’s a red candle, and now, here, if you are entering your trade, you sell this candle here, the red one, you put your stop above the previous high and then, you can go and look for a first support level, this would be this horizontal support and 100 moving average. So this will be the perfect trading, the Shooting Star, if you want to talk about risk-reward, so you are selling 1.2885, let’s say, and your stop should be 1.2920. So you are risking 35 pips and your Take-Profit will be 1.2815, which means that you risk 35 pips, in order to make at least 60 pips. If not, even higher if you want to really push and look here, for 200 MA.

So it’s an extremely productive strategy. It’s very good since you can define your Stop-Loss, you’re playing against the previous high, so as soon as this candle opens, you put your Stop-Loss above this candle and then you look down for first initial support, where you can take your profit. It’s same here, you put your stops below the low, and then you can, for example here, in this particular case, you could have bought the price here and then you actually can take profit either at this trendline that now acts as a resistance. Obviously, here we had a big gap. So, there are some also fundamental factors included here, but even without it, this will probably finish with a move higher.