Candlestick Chart Patterns – Harami, Engulfing

Stock Chart Reversals Can be Spotted by Inside, Outside Patterns

Jul 30, 2009

Major stock trends start and stop with common high, low, opening, and closing price patterns shaped over a short time. Here are four patterns traders must recognize.

Though stocks can and often do move in unexpected ways, paying attention to how stock charts take shape can offer attentive investors a distinct advantage. How? Certain patterns – far more often than not – may indicate a major reversal has been made, meaning a bullish trend has turned bearish, or a bearish trend has turned bullish.

Here are four simple but powerful reversal patterns all traders should become familiar with to help identify major turning points on a chart. Note that each pattern requires two bars to be complete.

Bullish Harami

A bullish Harami pattern consists of two consecutive bars on a chart, whether those bars be daily, weekly, or hourly bars… the pattern applies no matter what the time frame is.

To qualify as a bullish Harami reversal, the first bar must be bearish (the close is lower than the open), and the bar should be tall (which can be a judgment call). The second bar must be bullish (the close is above the opening price), but that bar’s range (from high to low) must be entirely located between the prior bar’s opening and closing prices.

The pattern often hints at an upside reversal simply because what appeared to be a firmly-bearish day - the first bar - was abruptly halted with a strong open and even stronger finish for the following bar. Note that the ideal bullish Harami reversal occurs after several bearish bars have driven the chart to excessive lows.

Bullish Engulfing

A bullish engulfing pattern is also a two bar pattern consisting of a very short bar (narrow range) for the first bar, and a very tall bar (wide range) for the second bar. The first bar is bearish, in that the open is above the close. The second bar is bullish in the sense that the close is above the open. Also, the second bar’s opening price and closing price alone is higher and lower than the first bar’s entire high-to-low range.

The key idea is simply that the first bar indicates the waning of selling activity, while the second bar shows a massive amount of buying when the chart opens considerably lower.

In simpler terms, the pattern says buyers were just waiting for the sellers to burn themselves out, so those buyers could start to buy at low prices. Once the sellers see how strong the buying is while the second bar is being made, all selling efforts cease. As with a bullish Harami, a bullish engulfing pattern is more apt to signal an upside move if it follows a strong downtrend.

Bearish Harami

A bearish Harami is simply an ‘upside down’ bullish Harami. It indicates a stock’s transition from net buying to net selling.

Bearish Engulfing

A bearish engulfing pattern is an ‘upside down’ bullish engulfing pattern. It can also indicate a stock’s transition from net buying to net selling.

Harami and Engulfing Pattern Tips

Since no chart pattern is 100% accurate, it is recommended to use a confirmation signal when a Harami or engulfing pattern is witnessed. That confirmation may be something as simple as waiting for the next bar (the third bar) to follow-through in the direction hinted at by the pattern made with the previous two bars.