Evening Star Candlestick Pattern: Formation and How to Trade It

What Is an Evening Star Candlestick Pattern?

The evening star candlestick pattern is a three-candlestick formation that is usually found at the top of an uptrend.

It's a bearish reversal signal, indicating that the current uptrend will likely reverse into a downtrend.

How to Identify an Evening Star Pattern on Forex Charts

Identifying an evening star pattern on forex charts involves looking for a specific three-candlestick formation that signals a bearish reversal.

This pattern consists of:

1. First Candle: A large bullish (up) candle.

2. Second Candle: A small-bodied candle that can be bullish or bearish. This candle shows indecision in the market.

3. Third Candle: A large bearish (down) candle that closes well into the body of the first candle.

Evening Star Candlestick Significance

Each of the above-mentioned candles of the evening star candlestick pattern has a distinct role in indicating a shift in market sentiment.

First Candle (bullish):

• This large bullish candle signifies strong buying momentum and market confidence.
• It shows that the bulls are in control, increasing prices and continuing the uptrend.

Second Candle (indecision candle):

• This candle can be bullish, bearish, or a doji, reflecting a potential shift in sentiment.
• Although the market opened higher, indicating initial bullish strength, it couldn't maintain this momentum.
• This signals that the uptrend is weakening, and traders are becoming uncertain.

Third Candle (bearish):

• The large bearish candle closes well into the body of the first bullish candle, indicating strong selling pressure and a shift in control from bulls to bears.
• This candle confirms the bearish reversal, showing that sellers have taken over and are pushing prices significantly lower.

Difference Between the Evening Star Candlestick and Other Patterns

The evening star pattern is usually compared to other candlestick patterns. Here’s a quick rundown of the most common comparisons.

Evening Star Candlestick vs Evening Star Doji Candlestick

The evening star candlestick and the evening star doji candlestick both signal a bearish reversal at the top of an uptrend, but the evening star doji is considered more significant.

While the standard evening star pattern features a small-bodied second candle, an evening star doji candlestick includes a doji as the second candle.

A doji is a candle where the opening and closing prices are very close or equal, indicating even greater indecision and potential for a reversal.

This heightened level of uncertainty makes the evening star doji a stronger and more reliable bearish signal compared to the standard evening star pattern.

Evening Star vs Shooting Star

The evening star and shooting star patterns both appear at the top of an uptrend and indicate bearish reversals but differ in structure and context.

While the evening star is a three-candlestick pattern, the shooting is a single-candlestick pattern characterized by a small body and a long upper shadow.

Moreover, while both patterns signal a potential reversal, the evening star's multi-candle structure generally provides a more reliable signal, confirming the bearish sentiment more clearly than the single-candle shooting star.

Evening Star vs Morning Star

The evening star and morning star patterns are both three-candlestick formations, but they signal opposite market reversals.

While the evening star is a bearish reversal pattern, the morning star is a bullish reversal pattern.

The morning star appears at the bottom of a downtrend and is formed by a large bearish candle, a small-bodied candle indicating indecision, and a large bullish candle that closes into the body of the first candle.

How to Trade the Evening Star Candlestick

Trading the evening star pattern effectively involves several key steps to ensure you make informed and strategic decisions.

Below is a detailed step-by-step evening star strategy and additional trading tips.

Evening Star Pattern Trading Strategy

Follow the below steps to trade the evening star pattern:

1. Identify the Evening Star Pattern: Begin by ensuring the market is in an uptrend. Look for the specific three-candlestick pattern explained above.

2. Confirm the Pattern: Verify that the third bearish candle closes below the midpoint of the first bullish candle. Increased trading volume on the third candle can strengthen the reversal signal, indicating strong selling pressure.

3. Enter the Trade: Initiate a short position at the close of the third bearish candle or at the opening of the next candle to capitalize on the confirmed bearish reversal.

4. Set a Stop-Loss Order: Place your stop-loss order, ensuring it aligns with your overall risk management strategy, typically risking only 1-2% of your trading capital per trade.

5. Set a Profit Target: Determine your profit targets by identifying previous support levels on the chart. These levels are likely points where the price may find buying interest, potentially reversing the trend.

6. Use Additional Indicators: Enhance the reliability of the pattern by confirming the trend with additional technical indicators such as moving averages and the Relative Strength Index (RSI).

When to Place a Stop Loss for the Evening Star Candlestick

Placing a stop-loss is crucial to managing risk when trading the evening star pattern. Set your stop-loss just above the high of the second candle.

This level acts as a logical point of resistance; if the price moves above this high, it suggests the bearish reversal might fail.

Moreover, you can use a trailing stop loss. A trailing stop allows you to lock in profits as the price moves in your favor, adjusting your stop-loss level according to market movements.

As the price moves lower after confirming the evening star pattern, adjust your stop loss to follow the price at a set distance (e.g., 20 pips).

How to Set Profit Targets for the Evening Star Pattern

Setting profit targets is a crucial part of trading the evening star pattern.

Here are some strategies to help you determine the best exit points for your trades:

• Identify Previous Support Levels: Look for previous lows on the chart where the price is reversed or consolidated.
  These levels can act as logical profit targets, representing areas where buyers might step in again.

• Risk-Reward Ratio: Use a risk-reward ratio to set your profit targets. A common approach is a 1:2 or 1:3 ratio, meaning if your stop-loss is 10 pips, set your profit target at 20 or 30 pips.
  This ensures that your potential reward outweighs the risk.

What Indicators Work Best with the Evening Star Candlestick

Combining the evening star pattern with other technical indicators can enhance its reliability.

Here are some indicators that work well:

• Moving Averages: Moving averages can help confirm the trend reversal. For instance, if the price crosses below a significant moving average (like the 50-day or 200-day), it confirms the bearish signal.

• Relative Strength Index (RSI): An overbought RSI (above 70) at the formation of the evening star pattern can provide additional confirmation of the bearish reversal, as it suggests the market is due for a pullback.

• Bollinger Bands: If the evening star pattern forms near the upper Bollinger band, it indicates that the price is relatively high, increasing the likelihood of a reversal.

Advantages and Limitations of the Evening Star Candlestick Pattern

The evening star candlestick pattern has its own set of benefits and limitations.

Advantages

• Provides a distinct and easy-to-identify bearish reversal signal after an uptrend.

• A commonly used pattern in technical analysis, making it widely recognized and understood by traders.

• Can be used in different financial markets, including stocks, forex, and commodities.

• Can be combined with other technical indicators for increased reliability and better trading decisions.

• The pattern's visual nature makes it straightforward for traders to spot and interpret on charts.

Limitations

• Like all technical patterns, it does not guarantee a reversal and can produce false signals.

• Often needs confirmation from other indicators or patterns to increase its reliability.

• More effective when used in conjunction with an understanding of the overall market context and trend.

• In volatile markets, the pattern can be more challenging to identify and may be prone to misinterpretation.

• Requires a good understanding of candlestick patterns and technical analysis to use effectively.

Conclusion

The evening star pattern is a valuable indicator for spotting bearish reversals at the top of an uptrend. Mastering its identification and using it alongside other technical tools can help you make more informed and strategic decisions.