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How To Exit Winning Trades Part 3: Candle Reversals

By  +Follow July 22, 2013 12:37PM
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In this final article in this 3-article series (read part 1 and part 2), we’ll look at how to use candlestick chart patterns along with classic Western technical exit signals to decide when to start exiting winning trades. Candlestick charts were first revealed to the Western world by expert Steve Nison, the world’s foremost authority on the subject. Learning how to exit successful trades with the help of candlestick charts can be particularly effective when combined with classic support/resistance exhaustion signals, to lock in potential gains. This article will cover both swing and day trading candlestick reversal examples.

Using Shooting Stars To Exit Open Swing Trading Long Trades
A shooting star is simply a candlestick that occurs after an uptrend that has an upper shadow of at least twice the real body height, and signals a possible reversal. It looks like a box with a large stick on top of it, visually. Selling right under a loss of this candle is a good idea for exiting any open longs, particularly for short-term trading.

In Figure 1, Zimmer Holdings Inc. (ZMH) , we see that a 15-minute shooting star on this 15-day chart indicates initial weakness following it’s breakout. To exit, we scale out of half the trade if price action gets 1 point under the low of the shooting star. For this ZMH swing trading chart, that would be at (84.5 – 1.0) = 83.5 as the first place to start selling. The secondary entry is to be set at a maximum of 1 full point under the cumulative 2-day low, in this case (80.7 – 1.0) = 79.7 for the second, final exit.

Whenever you are in a winning breakout swing trade, it’s always important to get out fast at the first sign of trouble, at least for 50% of all open shares, to lock in a profit.  Many traders wait far too long to exit their trades, waiting until catastrophic large reversals have wiped out part of all of their unrealized P&L (profit and loss) open gains.  Using the 15-minute shooting star candles on a 15-day chart is a very smart way to signal the potential reversal of the uptrend, to start selling into.

Dual Swingtrading Exits: Shooting Stars and 50 Moving Average (MA) Exits

Many traders like to use multiple timeframes to decide when to exit their trades, and this is a reasonable approach, when done correctly. Daily candlestick charts for short-term trading are best viewed on a 90-day daily candlestick timeframe with 50, 100 and 200-period simple moving average (MA) lines.  

Combining candles with major MA lines that institutional traders use can give astute active traders valuable insights into key buying and selling support and resistance areas to use. Making entry and exit decisions with this timeframe chart is risky if traders use too-large stops and trailing stops, however, so it’s important to keep the 15-day chart patterns in mind when deciding how to exit as well.

In Figure 2, Mattell Inc. (MAT) , we see a shooting star that signified weakness and a potential reversal in the uptrend, which did in fact occur during the subsequent trading days after this was seen.  A loss of the low of the shooting star is a good time to start exiting open long positions. The second and final scale-out sell signal is when the candles start to get below the red 50MA line, which occurred in late May.   

Day Trading Exit Signals Using 5-Minute Candlestick Patterns
In addition to shooting stars, another favorite exit signal is a “bearish engulfing” pattern, in which the real body of a candle wraps around, or engulfs, the prior candle, taking out new lows. In Figure 3 Tesla Motors Inc. (TSLA) we see a bearish engulfing pattern near the 126.5 price level. It’s often wise to wait until price action loses support under the 2nd red engulfing candle (in this case, 126.5 - .35) = 126.15 to exit half the open intraday trade.

A second exit signal is generated by trailing a stop at just under the nearest bear cup pattern.  In this chart, a bear cup was formed beterrn 124.0 and 125.0.  A loss of the 124.0 support line would provide the second sell signal, to close out the remaining open long, if it loses that support line. When day trading, it’s helpful to look for shooting stars, engulfing patterns and bearish cups to tell the trader when to exit their open long positions.

As we explored in the earlier articles in this series, using a series of 2 exits is a smart scaling-out approach since it helps traders stay alive in a trade despite an initial early sell signal (in case it pivots and regains buying momentum).   The best approach is always to exit at least half the open trade at the first sign of trouble, and use a clearly-defined exit strategy with the goal of maximizing profits by selling open winning trades at the first sign of reversals.  

Using these candle signals along with classic Western technical indicators like moving average crossovers and support areas can be a valuable approach when deciding how to trade more professionally.

Ken Calhoun is a trading professional who has traded millions of dollars of equities since the 1990s, and is the producer of multiple award-winning trading courses and video-based training systems for active traders.  He is a UCLA alumnus and is the founder of TradeMastery.com and DaytradingUniversity.com, popular online educational sites that reach tens of thousands of active traders worldwide.

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By  +Follow July 22, 2013 12:37PM
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