Tyler Chianelli s EASYOPTIONTRADING by OPTION TRADING COACH PART 3 - CHART PATTERNS & TECHNICAL INDICATORS A SIMPLE SYSTEM FOR TRADING OPTIONS WORKS IN UP, DOWN, AND SIDEWAYS MARKETS
PART 3.1 - PRIMARY CANDLESTICK FORMATIONS Candlestick Name: Bullish Engulfing Formation Pattern Psychology: A white body is formed that opens lower and closes higher than the previous black candles open and close from the previous day. This complete engulfing of the previous body represents overwhelming buying pressure dissipating from the selling pressure. Identification Factor: This pattern is formed at the end of a downtrend and suggests the bulls are stepping in with force, suggesting prices will move up. Candlestick Name: Bearish Engulfing Formation Pattern Psychology: This is the direct opposite to the bullish engulfing formation. It is created at the end of an up-trending market. The black real body completely engulfs the previous day's white body. This shows that the bears are now overwhelming the bulls. Identification Factor: This pattern is formed at the end of a uptrend and suggests the bears are stepping in with force, suggesting prices will move lower. Candlestick Name: Hammer & Hanging Man Pattern Psychology: These candlestick formations have long lower shadows and small real bodies. The bodies are at the top of the trading session. This pattern at the bottom of the down-trend is called a Hammer. It is hammering out a base. The Japanese word is takuri, meaning "trying to gauge the depth. Identification Factor: Hammers occur in downtrends and signal prices should go higher. The hanging man occurs after a rise in prices and signals prices to fall.
PART 3.1 - PRIMARY CANDLESTICK FORMATIONS Candlestick Name: Bullish Harami Pattern Psychology: After a strong downtrend the bulls step in and open the price higher than the previous day s close. This concerns the bears and the shorts start covering their positions. A strong day after that would be a sign that the trend may be in a reversal mode. Identification Factor: This is a two candle pattern forming in a downtrending price pattern. The body of the first candle is the same color as the current trend and should be a long black candle. The body of the second candle is white and opens and closes within the body of previous days candle. Candlestick Name: Bearish Harami Pattern Psychology: After a strong uptrend the bears step in and open the price lower than the previous day's close. The price finishes lower for the day and the bulls are concerned and begin taking their profits. Identification Factor: This is a two candle pattern forming in an uptrending price action. The body of the first candle is the same color as the current trend and should be a long white candle. The body of the second candle is black and opens and closes within the body of the previous days candle. Candlestick Name: Doji Pattern Psychology: The Bulls and the Bears are conflicting. This is an alert to investors to prepare for a possible trend reversal. Identification Factor: Occurs in uptrends and downtrends
PART 3.1 - PRIMARY CANDLESTICK FORMATIONS Candlestick Name: Inverted Hammer Pattern Psychology: After a downtrend has been in effect, the atmosphere is bearish. The price opens and trades lower, but before the end of the day the bulls step in and take the price back up. A higher open or a white candle the next day reinforces buying. Identification Factor: The upper shadow should be at least two times the length of the body. The real body is at the lower end of the trading range. There should be no lower shadow or a very small lower shadow. Candlestick Name: Shooting Star Pattern Psychology: This sends a warning that the top is near, and got its name by looking like a shooting star. Identification Factor: Occurs in uptrends and downtrends. The shooting star formation, at the bottom of a trend (known as: inverted hammer), is a bullish signal, and is a bearish formation at the top of a trend. It is important to have bullish or bearish direction to solidify the shooting star or inverted hammer. Candlestick Name: Piercing Line Pattern Psychology: This is a two candle bullish pattern that comes at the end of a declining market. The preceding real body is black, and the second day is a long white body. The white day opens sharply lower, under the trading range of the previous day, and then the price comes up to where it pierces above the 50% level of the previous black body. Identification Factor: Occurs in downtrends and predicts higher prices are to come.
PART 3.1 - PRIMARY CANDLESTICK FORMATIONS Candlestick Name: Dark Cloud Cover Pattern Psychology: This is a two candle bearish pattern found at the end of an uptrend or at the top of a congested trading area. The first day of the pattern is a strong white real body. The second day's price opens higher than any of the previous day's trading range and breaks at least 50% into the previous candlestick. Identification Factor: Occurs in uptrends and predicts lower prices are to come. Candlestick Name: Morning Star Formation Pattern Psychology: This is a three candle bullish bottom reversal pattern. The morning star, like planet Mercury, foretells the sunrise, or the rising of prices. The pattern consists of a three day signal and is considered a very prominent bullish candlestick formation. Identification Factor: The morning star is found at the end of a downtrend, and does not require bullish confirmation. Candlestick Name: Evening Star Formation Pattern Psychology: This is is the exact opposite of the morning star. The evening star, the planet Venus, occurs just before the darkness sets in. The pattern consists of a three day signal and is considered a very prominent bearish candlestick formation. Identification Factor: The evening star is found at the end of an uptrend. This formation does not require bearish confirmation.
PART 3.2 - DETERMINING RELATIVE STRENGTH The RSI (Wilder s RSI) is a rate of change oscillator that essentially compares the price of something to itself. When RSI registers a reading of 75% or higher price is generally in an overbought position. When RSI reaches the 25% level price is considered to be in oversold territory. When using RSI as an overbought/oversold indicator, it is extremely important to first determine whether an evident primary trend actually exists. The best way to determine this is by using other technical indicators such as moving averages and trend lines. Once the direction of a primary trend has been successfully identified, the RSI is used to trade strictly with the trend. The RSI is Great at Spotting Trend Reversals
PART 3.2 - DETERMINING RELATIVE STRENGTH How to Use RSI: GLD: 6-Month Daily Chart Bullish Signal: breakout signal occurs when converging up through the 25 level Bearish Signal: breakout signal occurs when converging down through the 75 level
PART 3.3 - THE ULTIMATE TREND FOLLOWING TOOL DIRECTIONAL MOVEMENT INDICATOR Helps You Determine and Trade the Trend Effectively Works in any time frame on all types of securities. Helps give you insight on whether to be long or short. Helps differentiate between strong and weak trends. A signal is created when a crossover occurs. A bullish signal is generated when the +DMI line crosses above the -DMI line. A bearish signal is created when the -DMI line crosses above the +DMI line. DMI is valuable tool that gauges price direction and strength.
PART 3.3 - THE ULTIMATE TREND FOLLOWING TOOL DIA: 1-Year Daily Chart How to Read DMI: Bullish Signal: breakout signal occurs when green line crosses up through the red line. Bearish Signal: breakout signal occurs when the red line crosses up through the green line.
PART 3.4 - TRADING BOLLINGER BANDS Bollinger Bands are volatility bands that help forecast future increases or decreases of the implied volatility on an underlying financial instrument. Works in any time frame on all types of securities. Helps give you insight on imminent increases in volatility. The wider the bands get apart the more volatile the environment. Thin bands means low volatility. The SMA of Bollinger Bands is a 21-Day Simple Moving Average. The upper and lower bands can also be used as measure of support & resistance levels.
PART 3.4 - TRADING BOLLINGER BANDS Bollinger Bands in Action AAPL: 1-Year Daily Chart Bottom Band acts as Support Top Band acts as Resistance Middle Line (SMA) Importance Bands Close Together (Low Vol) Bands Far Apart (High Vol)
PART 3.5 - USING FIBONACCI RETRACEMENTS Fibonacci Retracements are a Proven and Useful Trading Tool that are Composed of Fibonacci s Numbers. Explanation: The first Fibonacci numbers are denoted as: (Fn, for n = 0, 1). You will see in the above example that Fibonacci s can be considered very and are numbers that repeatedly show up in the financial markets. You will see that after two starting values, each number is: the sum of the two preceding numbers. -- > That is the science behind Fibonacci s. This also works in all aspects of life... Fibonacci ratios appear which consist of: 23.6%, 38.2%, 50%, 61.8%, and 100%. These key retracement levels are very effective in helping traders spot natural levels of support & resistance.
PART 3.5 - USING FIBONACCI RETRACEMENTS How to Form Fibonacci Retracements: Fibonacci retracements are formed by dividing the vertical distance between the peak and trough on a chart. You do this by connecting the highest and lowest prices in a time frame.
PART 3.6 - FORECAST WITH FIBONACCI EXPANSIONS Fibonacci Fans (Expansions) are a Useful Tool that Forecasts Future Key Levels of Support as well as Trading Ranges Works in any time frame on all types of securities. Helps give you insight on when to cover positions or take profits. Helps add future price projection based on natural forces. The 61.8% level is the most prominent and most rare level to reach. Often times the 38.2% level acts as resistance as prices expand upwards. As with all other technical analysis indicators volume is fiercely important when combined with Fibonacci fans.
PART 3.6 - FORECAST WITH FIBONACCI EXPANSIONS How to Form Fibonacci Expansions: Fibonacci expansions are formed by multiplying out the vertical distance between the selected peak and trough on a chart. You do this by connecting the highest and lowest points in a given time frame.
PART 3.7 - COMBINING TECHNICAL INDICATORS Combining Multiple Technical Indicators is a Strong Way to Increase Your Odds for Long-term Success as a Stock & Options Trader It is ALWAYS important to keep it as simple as possible. Do what works best for you and your trading style. Utilize proper color distinction when customizing your charts. Understand when to use oscillators versus trend following indicators. Continually test, tweak, and try new technical strategies. Try not to layer up too many of the same types of indicators. This can create a counter-intuitive effect by over-signaling or creating conflicting signals.
PART 3.7 - COMBINING TECHNICAL INDICATORS GOOG: 1-Year Daily Chart Technicals Used: Trend Support & Resistance Candlestick Formations Volume Bollinger Bands RSI DMI