Morning star candlestick pattern is a bullish reversal candlestick pattern. It consists of three candles. But why it is called star?
In the candlestick pattern study, when we find a small-bodied candle placed above the range of the previous candle, we call that a star pattern.
What is a Morning Star Candlestick Pattern?
This candlestick pattern consists of three consecutive candlesticks. Usually formed at the bottom of a downtrend, this prominently visible pattern tells you there’s a new morning to come after the downtrend. The trader interprets this pattern and gets alerted to an imminent upward reversal of the stock price.
In the diagram above we can notice three consecutive candles inside a marked rectangular box. The rectangle indicates a Morning Star pattern.
The first candle of this pattern is a large red candle, reminding us of the existing downtrend.
The second candle is a green candle that has a small body and formed the first red candle. It has long wicks and nearly looks like a star.
The third candle is also a green candle that started with a gap-up opening and has a large body without almost no wick.
What does a Morning Star tell us?
As can be seen in the above two diagrams the MorningStar candlestick pattern is a combination of three candlesticks. A large red first, then a small green or red candlestick, and the last one is a large green candlestick.
The middle candlestick is the Morning Star and indicates the reversal of the existing trend. The color of the candle solely depends on how the buyers and sellers of the stocks settle for at the end of the day. The closing price of the second small candle may be higher than the opening price or lower than the opening price.
Read more: Important candlestick pattern you must know
Colour of candles and their significance
If the closing price ends up higher than the opening price, then the middle candle turns green. Else, if the closing price is lower than the opening price then the small-bodied candle turns red. But one aspect is evident. Both the opening price and closing price are close to each other. For this reason, the body of the candle is very small.
A small candle shows indecision on the part of the traders. But in the end, the bulls gather strength. That is shown in the third candle. This candle opens with a gap-up price, has a large body and ends in green, confirming the start of a new uptrend.
As discussed earlier, the third candle has almost no wick. If the third candle is a green Maroubozu or a candle with no wick, more bullishness can be seen afterward.
Hence we can say that the Morning Star pattern tells us there is a potential reversal of the trend and the downtrend is about to end.
Characteristics of the second candle in the Morning Star pattern
As has been already discussed, the body of the second candle of this three candle pattern can be either green or red. We also discussed that the body of the second candle is very small.
The small body of the candle results from the fact that the opening price and closing price are close to each other. What if, the opening price and the closing price are the same? In this case, there will be without a body of the candle and the candle will look like a + sign. These + sigh candles are known as Doji. We can also find a Doji candlestick in this Morning Star candlestick pattern.
The presence of the Doji candlestick also signifies that the buyers and sellers are undecided about which way to go. If a Morning Star pattern is formed with a Doji in the middle, the significance remains the same as with the conventional pattern.
Quick read: Doji pattern overview
How to identify Morning Star in a chart?
The market must be in a downtrend. To identify this we should be looking for candles exhibiting lower highs and lower lows.
There must be a large red candle showing bears are expecting more downward price movement. At such moments, traders are thinking of further lower prices and therefore selling more. Traders are looking to short more because there’s no price reversal signal on the horizon. This is the first candle of the Morning Star Candlestick Pattern.
The second candle has a small body with probably long wicks. Here bulls are trying to overpower bears. The candle may be green or red in color. The price gap between the opening price and closing price should be very little.
The third candle is a large green candle that opened with a gap-up opening. It signals the start of a new uptrend.
In the subsequent periods, the candles are green and show higher highs.
How to Trade a Morning Star?
Morning Star candlestick patterns are pure visible patterns. No scientific calculations are behind this formation. Hence a trader needs to identify it visually than confirm it through calculations.
Once a trader is sure of the formation of the Morning Star candlestick calculation pattern, the trader should confirm it through other established patterns to be sure of the near-term stock price movement in the future.
After getting confirmation the trader enters the stock in the fourth candle. The buying price should be above or near the close of the third candle.
Trade Entry: It can be clearly seen in the diagram above, the trading conditions. Traders buy the stock above the close of the third green candle. Sometimes buyers wait for the fourth candle to finish to be ascertained about the bullish reversal. But in the case of high Beta stocks, the entry may be too late in a fast-moving market.
Stop Loss: The stop loss should be placed below the last swing low. In the diagram, the last swing low was the low of the middle red small candle. Therefore the stop loss was placed below that.
Trade Target Price: The target price is not the same for every trader. Some traders prefer a 1:2 or 1:3 risk/reward ratio, while some others prefer a fixed percentage of the price. And there are others who change their target price according to the technical indicator involved. Here a trader may place the target price just below the next resistance level.
Trade Morning Star in real market scenario
We must use other indicators to get trade confirmation before entering into the trade. The other indicators that traders use are the Bollinger Bands and the Relative Strength Index (RSI).
The charts above show that the Morning Start candlestick pattern can be traded with Bollinger Bands and also RSI.
We can easily adopt such methods and trade more successfully.
Psychology of traders behind Morning Star pattern
The traders were aware of the continuing downtrend and may be looking for lower prices furthermore.
The last large red candle in this pattern confirms this. The candle makes a new low. This happened on Day One. Bears running the show.
On Day Two, again the bears show dominance. The candle makes a new low and opens with a gap-down. This session either closes slightly up or below the opening price. The cable has an extremely small body forming either a Spinning Top or Doji. This small body signifies the indecision of the traders.
The Spinning Top or Doji formation sends jitters to the bears. They ideally would have wanted to take the market further downwards. But they failed to do so because of the strong presence of bulls. This candle also shows the infight among the bulls and bears. Long wicks suggest that.
The third candle usually opens with a gap-up. It occurs on Day Three. The price moves fast upwards on this day. Because the bears run fast to cover their shorts. The short-covering pushes the price further upwards.
The third day closes further up in the green. The traders are now confirmed about the candlestick pattern. This is the right price to enter.
The Difference Between a Morning Star and an Evening Star
The appearance and position of the Morning Star and the Evening Star are just the opposite of each other. Morning Star is formed at the bottom of a downtrend. While the Evening Star is formed at the top of an uptrend.
The Morning Star warns us about a potential price reversal from a downtrend to an uptrend. But the Evening Star tells us of an impending reversal from bullish to bearish.
Reliability of Morning Star pattern
Similar to many others, the candlestick pattern is a visual pattern. On a chart, this pattern is clearly visible at times. Traders favor using this pattern while trading. In many cases, the pattern is giving a successful forecast of an upcoming trend. But in many other cases, the pattern fails to give successful results.
The forecast fails mainly because there is no calculation involved in the forecast. The chart pattern is purely a probability study. So there are chances that the forecast may not be accurate.
Limitations of Using the Morning Star Pattern
A true Morning Star pattern, when all other conditions satisfy, is very hard to find. Here, we are discussing that if we can find a true pattern satisfying all other conditions then the result could be what we have been discussing till now. But in the real live market scenario, the market moves on its own. Hence we rarely can find exact conditions. But similar formations can be found.
In those cases, we must confirm the trade from other technical indicators.