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In a prior article we talked about hammers as a bullish continuation or reversal pattern. There is also a mirror image of this pattern called a shooting star. It is what it sounds like; shooting stars are bearish reversal or bearish continuation patterns. Like hammers they tell a story of shifting investor sentiment and appear in just about any market. A shooting star is useful not only as a timing signal for short entries but as a warning to long positions. If you are long a pair and a shooting star appears, additional risk coverage is a great idea.

A shooting star consists of a small body with very little or no lower shadow and an upper shadow that is at least 2 times longer and preferably 3 or more times longer than the candle body. When these candles appear in a downtrend they are a good signal that the temporary appearance of bullish momentum (signified by the tall upper shadow) has been beaten back by the bears and the market is going to continue to the downside. When this candle appears during an uptrend it is a strong indication of weakening bullish momentum and long positions are in danger. The pattern is reasonably effective across different time frames but trading costs can make a negative impact for very short term traders.

USD/CHF Daily Chart
 

I tested this candlestick's predictiveness using my standard methodology. I set a 25 pip trailing stop loss on short positions that would be "entered" at the open of the following candle's open. If the position was profitable, I considered that a successful signal. If the position were stopped out with a loss, I considered that a negative signal. This is a mechanical test so it will inevitably be somewhat optimized, but this is a great way to establish a baseline for what to expect in the live market. I should also point out that I did not qualify or "confirm" the signal in any other way. Traders may be able to improve the effectiveness of such a pattern by integrating support and resistance or other qualifying signals. 

Pairs tested in order of effectiveness:

USD/CHF

GBP/USD

AUD/USD

USD/JPY

EUR/USD

USD/CAD

NZD/USD

GBP/JPY

Testing Period

Daily Candles 01/01/2000 - 08/08/2008.

% of Winners (profitable trades)

50%

Ratio of Average Gain / Average Loss

2.26 : 1

Expectancy

+63%.

Summary:

Like hammers, shooting stars are one of the most successful patterns I have tested. Annecdotally, this is one of those signals I see a lot of other traders using for the same reason. The one drawback to this pattern is that it does not occur as frequently as other more common signals like engulfing candles.

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3.25 Copyright (C) 2007 Alain Georgette / Copyright (C) 2006 Frantisek Hliva. All rights reserved."