The Morning Star candlestick is a three-candle pattern that signals a reversal in the market and can be used when trading forex or any other market. Correctly spotting reversals is crucial when trading financial markets because it allows traders to enter at attractive levels at the very start of a possible trend reversal.
This article explores the following talking points:
- What is a Morning Star candlestick?
- How to Identify a Morning Star on forex charts
- How to trade the Morning Star pattern
- How reliable is the Morning Star in forex trading?
What is a Morning Star Candlestick?
The Morning Star pattern is a three-candle, bullish reversal candlestick pattern that appears at the bottom of a downtrend. It reveals a slowing down of downward momentum before a large bullish move lays the foundation for a new uptrend.
Morning Star Doji
Traders will often look for signs of indecision in the market where selling pressure subsides and leaves the market somewhat flat. This is where Doji candles can be observed as the market opens and closes at the same level or very close to the same level. This indecision paves the way for a bullish move as bulls see value at this level and prevent further selling. The appearance of the bullish candle after the Doji provides this bullish confirmation.
What about the the Evening Star?
The bearish version of the Morning Star is the evening star and it signifies a potential turning point in a rising market ( bearish reversal pattern). The same analysis applied to the Morning Star can be implemented with the evening star however, it will be the opposite direction.
How to identify a Morning Star on Forex Charts
Identifying the Morning Star on forex charts involves more than simply identifying the three main candles. What is required, is an understanding of previous price action and where the pattern appears within the existing trend.
- Establish an existing downtrend: The market should be exhibiting lower highs and lower lows.
- Large bearish candle: The large bearish candle is the result of large selling pressure and a continuation of the existing downtrend. At this point traders should only be looking for short trades as there is no evidence of a reversal yet.
- Small bearish/bullish candle: The second candle is a small candle – sometimes a Doji candle – that presents the first sign of a fatigued downtrend. Often this candle gaps lower as it makes a lower low. It does not matter if the candle is bearish or bullish as the main takeaway here is that the market is somewhat undecided.
- Large bullish candle: The first real sign of new buying pressure is revealed in this candle. In non forex markets, this candle gaps up from the close of the previous candle and signals the start of a new uptrend.
- Subsequent price action: After a successful reversal, traders will observe higher highs and higher lows but should always manage the risk of a failed move through the use of well-placed stops.
How to Trade the Morning Star Pattern
The Morning Star pattern can be observed in the EUR/GBP chart below, where there is an established downtrend leading up to the formation of the reversal pattern.
Looking at the chart, once the formation has completed, traders can look to enter at the open of the very next candle. More conservative traders could delay their entry and wait to see if price action moves higher. However, the drawback of this is that the trader could enter at a much worse level, especially in fast moving markets.
Targets can be placed at previous levels of resistance or previous area of consolidation. Stops can be placed below the recent swing low, as a break of this level would invalidate the reversal. Since there are no guarantees in the forex market, traders should always adopt sound risk management while maintaining a positive risk to reward ratio.
When trading the Morning Star on forex markets, the price will very rarely gap like they do with stocks and so the three-candle pattern usually opens very close to the previous closing level.
How reliable is the Morning Star in Forex Trading?
The Morning Star, like most candlestick patterns, should be assessed in line with the current trend and whether there is supporting evidence in favour of the trade, when looking at an indicator. Below are the advantages and limitations of the Morning Star pattern:
Occurs frequently in the forex market
A failed reversal is possible and price could move further down
The pattern presents well-defined entry and stop levels
Morning Stars are easy to identify