Another useful trend indicator

Japanese have used it to spot movements on a trend.

A Harami is a candlestick indicator which marks the reversal or sidewise movement of an existing trend. The Japanese word Harami means pregnant and the indicator is sometime known as a pregnant candle. Harami candles are found on daily charts and may be found both at the end of bullish and bearish trends. They are easy to identify and mostly favour swing traders.

The Harami pattern is made up of two candlesticks. The first has a large body and the second a small body totally encompassed by the first. There are four possible combinations: white/white, white/black, black/white and black/black. Whether a bullish reversal or bearish reversal pattern, all harami look the same. Their bullish or bearish nature depends on the preceding trend. Harami are considered potential bearish reversals after an advance, and potential bullish reversals after a decline. No matter what the colour of the first candlestick, the smaller the body of the second candlestick, the more likely the reversal. If the small candlestick is a Doji, the chances of a reversal increase.

 

Harami candlesticks are not considered among the most reliable indicators. But they are useful trend indicators when used in conjunction with other trend-confirming tools.

BEARISH
A Bearish Harami candle indicates the end of an uptrend. It forms when a smaller candlestick is located within the range of the previous day's large candlestick in a bullish trend. The smaller the second candlestick, the more the probability of a trend reversal.

Any combination of colours can form a bearish harami, but a bearish harami indicator is more powerful when the large candlestick is white (bullish) and the candlestick is black (bearish). Many traders take this as a good opportunity to exit from the long position.

RECOGNITION
1st day is a bulls' day (white candle) with a large body - the market has been bullish so far.

2nd day is a bears' day which gaps opposite the trend - with a much smaller body and is completely engulfed by the 1st day's body.

TRADING STRATEGY
Wait for the next candle to break the low made by the 2nd candle. Then, go short by putting a stoploss of the high made by the 2nd candle.

Within two weeks of the appearance of a Harami pattern, the stock tumbled 51 per cent to Rs 320. When such a pattern appears in the weekly charts, a close below the previous week's low in the daily charts is good enough to trigger initiation of a bearish trade.

BULLISH
A bullish harami candle indicates the end of a downtrend. It forms when a smaller candlestick is located within the range of the previous day's large candlestick in a bearish trend. The smaller the daughter candlestick, the more is the probability of a trend reversal. A bullish harami indicator is more powerful when the large candlestick is black (bearish) and the smaller candlestick is white (bullish). Many traders take this as a good opportunity to buy stocks.

RECOGNITION
1st day is a bearish day (black candle) with a large body - the market has been bearish so far.

2nd day belongs to the bulls. The stock opens with a gap up against the prevailing trend, with a much smaller body, and is completely engulfed by the 1st day's body.

TRADING STRATEGY
Wait for the next candle to break the high made by the 2nd candle. Then go long by putting a stoploss of the low made by the 2nd candle.

Let us discuss the live example of bullish harami, which was been observed on the Bank of India daily chart. On March 9, the stock fell by almost eight per cent and resulted in a big black candle with a large body. On the next day, March 12 , the stock opened with an upward gap and the bullish Harami pattern got completed. The buy signal was triggered in the following session of March 13, when the high of 191 made on March 12 was crossed decisively. An entry at this point resulted in a gain of 46 per cent in 21 sessions.

The writer is director and head of research, Anagram Capital