Home Technical Analysis Price action Identifying Trend Reversals Using the 100-year Old Harami

Identifying Trend Reversals Using the 100-year Old Harami

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Introduction

Harami is one of the most profitable candlestick patterns for stocks, commodities and forex. Traders can generate buy and sell signals with the help of this candlestick pattern at various points on the chart. The biggest challenge for many traders and investors is identifying a large number of trading signals.

Mastering this pattern is possible by learning some of the major patterns. Knowing these patterns and understanding how they are formed, provide traders with tremendous insight on what actually is happening in the market. This pattern was created a hundred years ago by Japanese rice traders. Common sense tells us that if this pattern didn’t work, it would not be here for us to view after them using this pattern for centuries.

The candlestick pattern discussed in this article need not be memorised. Also, some of the patterns we have discussed in the previous articles do not occur that often. Harami is one such pattern. The bullish harami is formed in two ways.

In the first way, a large red candle appears at the end of a downtrend. You can confirm it is a downtrend by the presence of stochastic in the oversold area. A bullish harami is formed by second candle opening above the previous day’s close and closing below the previous day’s open. In Japanese, harami means a pregnant woman. In the figure given below, the red candle can be thought of as the woman’s body and green candle as her belly coming out.

A harami is spotted in the chart of EUR/USD shown below. If the pattern accompanies a Doji, it becomes more effective. Once the price came near the pattern, after the formation of Doji, a gap-up next day gives a high probability of the trend getting reversed.

More about the harami

As said above, the harami is a two-candle formation in a down-trending market. The colour of the first candle is the same as the current trend. The second body is smaller than the first body. The second candle should be enclosed within the first body. The opening and closing, all occurs inside the previous day’s candle. The presence of such a pattern indicates that the trend is over.

The location and size of the second candle will influence the magnitude of the reversal.

Pattern psychology

After many days of the down move, the bulls open the price little higher than the previous close. This starts to bother the traders who took short positions and they start to cover them. Next day, the candle closes higher than the previous day. This is enough to tell the short traders that the trend has been violated and there could be a change in the trend. A big green candle after the harami pattern would convince everybody that the trend has been reversed. As a result, not only short traders take long positions, but traders who were waiting to buy at low prices also build long positions.

Harami and technical indicators

The harami pattern indicates that the selling has stopped. Now, how strong the reversal depends on the strength of the harami. For example, if harami opens and closes at the very low end of the previous day’s candle, the uptrend which will start can be slow or flat. If the harami closes midway of the previous day’s candle, the uptrend will be moderately strong. Whereas, if the harami closes near the uppermost part of the previous day’s candle, the uptrend will be strong.

The harami can be combined with popular technical indicators to get a better idea of the trend. You could additionally use a trend line or moving average. For instance, the formation of a harami at an oversold area becomes much more significant when it is on a 50-day moving average or a 200-day moving average. You get verification of possible formation of a support level using the technical tools. The candlestick pattern gives an immediate buy signal, whereas other technical analysis would take much more time to give the same. If you use this method of trading, you will be much more profitable.

Just like the bullish harami, the bearish harami will signal the magnitude of the new downtrend after an uptrend. A very small candle at the top after the previous day’s green candle indicates a possible gradual downtrend. If the next day’s candle closes at the lower end of the previous day’s candle, it indicates that the selling pressure is going to be much higher.

Conclusion

The purpose of learning the harami candlestick pattern is to find better opportunities for profit with confirmed signs. The results of the pattern are fairly predictable. Harami creates both a potential buy signal and sell signal. With harami, you could also expect volatility to expand in the near future. You should be careful by not looking at this pattern in isolation. You should know your strengths and weaknesses to trade in a way which is most suitable for you. You should also modify the pattern to adjust the changing market conditions. At the same time, do not forget what the big picture says. Hope you had a good read. Happy Trading!

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