Looking Inside Bearish Engulfing Bars and the Reversals that Followed

Jul 29, 2010: 11:29 AM CST

It’s mid-day, and so far the S&P 500 has formed a clean – nasty – bearish engulfing candle on the daily chart – that’s a very powerful signal.

Let’s take a quick look at the formation of the bar and then look what happened the last time – June – when we saw this exact same pattern – it’s not bullish.

First, the daily chart for reference:

In this price purism chart of the SPY, I’m showing the three most recent “Engulfing” daily candle bars, both of which formed at key turns in the market swing.

The first was the insidious bull trap of June 21 that strongly warned of a major turn lower in prices -that occurred right on cue.

Recently, on July 20, we had a clean bullish engulfing candle that thwarted the down-swing in process, leading to the most recent swing higher in price.

Today, so far, we have a clean bearish engulfing bar.  The caveat is that the bar is NOT complete yet, so to make the signal official, we would need to see a close under $110.40.

Let’s now step inside the most recent bar and see the half-way point of the session, as of 11:20am CST:

A quick glance shows us how today’s bar gapped over the high of yesterday (barely) and then “engulfed” yesterday’s action fully, pushing solidly beneath yesterday’s low at the $110.50 level.

That’s how a Bearish Engulfing Candle forms.

To highlight the distance, I’ve emphasized the difference between yesterday’s high and today’s high, as well as yesterday’s low and today’s low.

If this signal plays out as anticipated, we could be seeing the confirmation of a turn lower in price.

To see what happened during June’s bull trap Bearish Engulfing candle, let’s step inside that bar:

I showed what happened the next day after the engulfing candle – so don’t include June 22nd’s info in the formation of the Bearish Engulfing Candle of June 21st.

We had a narrow range day (actually three doji candles in a row) prior to the bearish engulfing candle, which sent prices much lower on the downside resolution of the up-swing.

The main idea when stepping inside candles on the daily chart is to see how they formed on the intraday charts, which reveals a clearer picture of the supply/demand relationship between buyers and sellers.

Watch to see if today officially closes under yesterday’s low to complete the bearish engulfing candle, and if so, be on guard for lower prices ahead.

Corey Rosenbloom, CMT
Afraid to Trade.com

Follow Corey on Twitter:  http://twitter.com/afraidtotrade

2 Comments

2 Responses to “Looking Inside Bearish Engulfing Bars and the Reversals that Followed”

  1. colodude Says:

    The VIX last night closed up a buck despite the very low volatility, and that made me wonder if today might be shakier than average. And this AM, when Kellogg analysis came out, it seemed like that was going to be a very sharp stick for the market. I happened to notice the four-day roundover on the 30-minute SPX chart (it's on SPY, too). The roundover seems to result in the engulfing bearish candlestick.

    Well, I'm in SDS now (wish I had courage at 1001 EDT), I hope it gives me my 2% before the close–I don't know how to pre-read GDP. What constitutes bad news? What constitutes good news?

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