OPTIONS

Wednesday, October 31, 2007

The Behavior of Implied Volatility (IV) & Historical Volatility (HV) Before & After Earnings Announcement

As mentioned before, Implied Volatility (IV) does factor in future important events / news which are expected to move the option’s price considerably within the next 30 trading days (e.g. earnings announcement, FDA approvals, etc.).

For some regular events, such as earnings announcement, which typically take place on a quarterly basis, we could see some common behavior before & after the announcement.
Generally, IV would normally start to increase since a few weeks before the announcement day.
Once the announcement is out, the IV will usually drop significantly.
On the other hand, the Historical Volatility (HV) may rise drastically should there were a significant gap up / down in stock price after the announcement.

Example:





Note:
RIMM’s Earnings Announcement: 28 Sep 06, 21 Dec 06, 11 Apr 07, 28 Jun 07, 4 Oct 07.

As we can see from the chart, the IV (Implied Volatility) was normally increasing when the announcement approached, and it dropped significantly right after the announcement.

On the contrary, when there was a significant price gap (up / down) after the announcement, the HV (Historical Volatility) increased drastically, reflecting the sudden actual price movement (e.g. Price gapped up after earnings announcement on 28 Jun 07).
Also notice that about 30 trading days after that, HV fell drastically. This is because the price data on the day just before the price gap occurred has been excluded from the HV calculation. (Remember that HV is a measure of the fluctuations of the stock price over the past 30 trading days).

Next, what’s the impact of the above behavior when we’re trading options over the announcement? We’ll discuss it further later. Please stay tune. :)

To understand more about other aspects of Implied Volatility, go to: Understanding Implied Volatility (IV).

Related Posts:
* Trading Videos From Trading Experts You Should Not Miss
* Options Trading Basic – Part 2
* Option Greeks

Monday, October 29, 2007

INVERTED HAMMER vs. SHOOTING STAR

Both Inverted Hammer and Shooting Star have the same shape, i.e. candlesticks with long upper shadows and small real bodies.
The upper shadow should be at least 2 times longer than the body.
There should be no lower shadow, or a very small lower shadow.
The color of the body is not important, although a white body has slightly more bullish implications and a red / black body has slightly more bearish implications.

Inverted Hammer and Shooting Star are reversal patterns which comprised of one candle only.
Whether a pattern is bearish or bullish reversal, it depends on whether it is formed at the end of a downtrend (Inverted Hammer) or an uptrend (Shooting Star).



Note:
The grey candle means the color of the candle’s body can be white or black (red).

INVERTED HAMMER (BULLISH)
Inverted Hammer
is a bottom reversal pattern / bullish reversal pattern.
It can be formed at the end of a downtrend, or during a pullback within an uptrend, or at the support.

For an Inverted Hammer to form, the price must first trade much higher than where it opened, and then it drops to close near its low at the end of the day. The long upper shadow formed shows some indications that the buyers (bulls) might have started to step in. Although the sellers (bears) managed to regain control and drive the price lower at the close, the appearance of buying pressure gives some warnings.
The next trading day needs to confirm its bullish reversal signal with a strong bullish day (e.g. a gap up or a long white candle on a high volume).

SHOOTING STAR (BEARISH)
Shooting Star
is a top reversal pattern / bearish reversal pattern.
I could be formed at the end of an uptrend, or during a bounce within a downtrend, or at the resistance.

When the price is in the midst of a strong rally, the price opens and then rises sharply. However, at the end of the session, the price turns and managed to close near its low. This shows some evidence that the sellers (bears) might have begun to take control.
The following day needs to confirm this with a strong bearish day (e.g. a gap down or a long black/red candle on a strong volume).

To read about other Candlestick Patterns, go to: Learning Candlestick Charts.

Related Topics:
* FREE Trading Educational Videos You Should Not Miss
* Learning Charts Patterns
* Options Trading Basic – Part 1
* Options Trading Basic – Part 2
* Option Greeks

Saturday, October 27, 2007

Reading Links

Adam from Daily Options Report: Gamma Thoughts

Adam from Daily Options Report: More On Gamma

Afraid To Trade: Six Tips to Assess the Significance of Price Patterns

Afraid To Trade: Amazon Teaches Us the Three Types of Gaps

Kirk Report: Seasonal Trend

A Trade A Day: How To Trade Hammers

Stock Bandit: When Good Trades Go Bad

Simply Options Trading: Is the Trend Changing?

Enjoy your weekends! :)

Related Posts:
* Option Greeks: GAMMA
* Major Candlestick Patterns: HAMMER vs. HANGING MAN

Thursday, October 25, 2007

HAMMER vs. HANGING MAN

Both Hammer and Hanging Man have the same shape, i.e. candlesticks with long lower shadows and small real bodies.
The lower shadow should be at least 2 times longer than the body.
There should be no upper shadow, or a very small upper shadow.
The color of the body is not important, although a white body has slightly more bullish implications and a red / black body has slightly more bearish implications.

Hammer and Hanging Man are reversal patterns which comprised of one candle only.
Whether a pattern is bearish or bullish reversal, it depends on whether it is formed at the end of a downtrend (Hammer) or an uptrend (Hanging Man).



Note:
The grey candle means the color of the candle’s body can be white or black (red).

HAMMER (BULLISH)
Hammer
is a bottom reversal pattern / bullish reversal pattern.
It can be formed at the end of a downtrend, or during a pullback within an uptrend, or at the support.

When the price is still in the midst of a decreasing trend, the market opens and then sells off sharply. However, at the end of the session, the price turns and managed to close near its high. This shows some evidence that the bulls have begun to step in.
The following day needs to confirm the Hammer’s bullish reversal signal with a strong bullish day (e.g. a gap up or a long white candle on a high volume).

HANGING MAN (BEARISH)
Hanging Man
is a top reversal pattern / bearish reversal pattern.
It may be formed at the end of an uptrend, or during a bounce within a downtrend, or at the resistance.

For a hanging man to form, the price must first trade much lower than where it opened, and then it rallies to close near its high at the end of the day. The long lower shadow formed shows some indications that the selling pressures might just begin. Although the bulls managed to regain control and drive the price higher at the close, the appearance of selling pressure raises some concerns.
The next trading day needs to confirm the Hanging Man’s bearish signal with a strong bearish candle (e.g. a gap down or a long red / black candle on a high volume).

To read about other Candlestick Patterns, go to: Learning Candlestick Charts.

Related Posts:
* A Chance to Learn from World Class Trading Experts For FREE You Should Not Miss
* Learning Charts Patterns
* Getting Started Trading
* Options Trading Basic – Part 1
* Options Trading Basic – Part 2
* Understanding Implied Volatility (IV)

Monday, October 22, 2007

PIERCING LINE vs. DARK CLOUD COVER

Both Piercing Line & Dark Cloud Cover are 2-day reversal patterns.
Whether a pattern is bearish or bullish reversal, it depends upon whether it appears at the end of a downtrend (Piercing Line) or an uptrend (Dark Cloud Cover).



PIERCING LINE (BULLISH)
Piercing Line
is a bottom reversal pattern / bullish reversal pattern.
It could be formed at the end of a downtrend, or during a pullback within an uptrend, or at the support.

This is a 2-candle pattern which can signal a possible turning point:
The 1st day is long black/red candle.
The 2nd day is a long white body candle that opens sharply lower, below the trading range of the previous day, but the price then rises and closes above the midpoint (50%) level of the black/red body of the 1st day candle.
If the following day the price continues to rise and close higher (preferably on a strong volume), it provides confirmation to this bullish reversal pattern.

DARK CLOUD COVER (BEARISH)
Dark Cloud Cover is a top reversal pattern / bearish reversal pattern.
It can be formed at the end of an uptrend, or during a bounce within a downtrend, or at the resistance.

This is a 2-candle pattern which can signal a possible turning point:
The 1st day is long white candle.
The 2nd day is a long black/red body candle that opens sharply higher, above the trading range of the previous day, but the price then drops and closes below the midpoint (50%) level of the white body of the first day.
If the following day the price continues to drop and close lower (preferably on a strong volume), it provides confirmation to this bearish reversal pattern.

To read about other Candlestick Patterns, go to: Learning Candlestick Charts.

Related Topics:
* A Chance to Learn from World Class Trading Experts For FREE You Should Not Miss
* Learning Charts Patterns
* Understanding Implied Volatility (IV)
* Option Greeks

Friday, October 19, 2007

Book Review: When The Market Moves, Will You Be Ready?

I just finished reading a book: When the Market Moves, Will You Be Ready?, authored by Peter Navarro.
Peter Navarro is the author of "If It's Raining in Brazil, Buy Starbucks", one of the famous books on Sector Rotation.



I found this book to be very well written. It is clear, concise and easy to understand, even for beginners.
Basically, the book introduces a top-down, step-by-step approach of investing, from the basic of fundamental analysis, technical analysis to risk management, money management, trade management, and execution.

Here are the main points what the book is all about:

There are 4 stages of Macrowave investing:

Stage 1: To analyze the 4 dynamic factors that have impacts to the broad market trend:
a) Company earnings: Especially for the big companies. Must take note of their earnings calendar.
b) Macro-economic events, such as government reports on inflation, employment, productivity reports, trade deficit, etc.
c) Fed policy changes (monetary vs. fiscal policy).
d) Exogenous shocks, such as oil price spikes, wars, terrorism, company scandals, etc.

Stage 2: To understand and determine the 3 key cycles that shape the market and sector trend: Business cycle, Stock market cycle and Interest rate cycle

With regards to the stock market & business cycle, Navarro emphasized the importance of Sector Rotation:

It’s well-known that to be successful in investing, one should follow the broad market trend because about 3 out of 4 stocks will follow the broad market. However, that principle only is actually not enough.
At different points of market cycle, there are some sectors that outperform both the general market and the other sectors. Therefore, investors should regularly change sectors as the stock market moves through the patterns of sector rotation.

If you’re in the right sector at the right time, you can make a lot of money very fast.

Peter Lynch

The following are 3 golden rules of Macrowave investing:
1) Buy strong stocks in the strong sectors in an upward trending market.
2) Short weak stocks in the weak sectors in a downward trending market.
3) Stay out of the market and in cash when there is no definable trend

This part of the book explained further the stages of stock market cycle, which sectors that normally outperform the others during each stage of the cycle, and the logics why it is so. Some ways to track the market and sector trend are also discussed.

With regards to the interest rate cycle, the author explained the 4 stages of interest rate cycle, and how interest rates affect stock and bond market.

In addition, Navarro also explained the Yield Curve and how the shapes the curve could possibly signal the possibility of market expansion / boom, or recession.

Stage 3: To screen and pick the strong stocks in the strong sectors or weak stocks in the weak sectors, based on fundamental and technical analysis.
The author offered some ways to screen stocks with strong fundamental and discussed some basics of technical analysis.

Stage 4: To use solid risk management, money management, and trade management as well as the execution itself.

I personally like how the author explained about the basic of money management. Very clear and systematic with a few examples. I think it’s the best explanation on the basic of money management as compared to other books or articles that I ever read on the topic so far. However, he did not explore too much on various money management techniques.

The trade management covers the comparison between market vs. limit order and when to use it, setting trailing stop to prevent a profitable trade from turning into a losing trade, using buying stop order for breakout play, etc.

On the execution, the author discussed the advantages of using Level II quotes as compared to Level I.

You can also take look at the Table of Content as well as excerpt of the book from the link provided above.
I think, it’s really a book worth reading.

Wednesday, October 17, 2007

HARAMI CROSS BULLISH vs. BEARISH

Harami Cross Bullish & Harami Cross Bearish resemble Harami Bullish & Harami Bearish.
Harami Cross can be seen as the variation of Harami pattern.
The difference between Harami & Harami Cross is that for Harami Cross, the 2nd candle is a Doji.

Basically, Harami Cross Bullish & Harami Cross Bearish consist of 2 candles:
The first day is characterized by a long body candle, followed by a Doji candlestick that is completely contained within the range of the previous day's body.

With the appearance of a Doji, these patterns imply market indecision, signaling a possible change of trend.
Harami Cross pattern is usually seen as having higher chances of reversal as compared to Harami pattern.



HARAMI CROSS BULLISH PATTERN
Harami Cross Bullish
is a bottom reversal pattern / bullish reversal pattern.
It may be formed at the end of a downtrend, or during a pullback within an uptrend, or at the support.

When the price is a declining trend for some time, a two-candle pattern forms.
The body of the 1st candle is the same color as the current trend (should be a long black/red candle).
The body of the 2nd candle is a Doji that is completely within the body of previous day's candle.

What does this pattern imply?
The market has been overwhelmed by strong selling pressure for some time. All of a sudden, the buyers (bulls) step in and open the price higher than the previous day's close.
After the strong opening, the price moves only in a small range and is contained within the previous day’s body. At the end of the day, the price closes at the opening level, forming a Doji. The Doji indicates market indecision and a potential trend reversal. The volume of the doji’s day should also dry up, reflecting complete market indecision.
A higher close on the following day (preferably with strong volume) would be needed to ascertain that the trend may be in a reversal.

HARAMI CROSS BEARISH PATTERN
Harami Cross Bearish
is a top reversal pattern / bearish reversal pattern.
It could be formed at the end of an uptrend, or during a bounce within a downtrend, or at the resistance.

When the price has been in a rally mode for some time, a two-candle pattern forms.
The body of the 1st candle is the same color as the current trend (should be a long white candle).
The body of the 2nd candle is a doji that is within the body of previous day's candle.

What does this pattern imply?
The buying pressure has been dominating the market for some time. After a long white candle day, on the next day the sellers (bears) suddenly step in and open the price lower than the previous day's close.
After the weak opening, the price fluctuates only in a small range and is contained within the previous day’s body. Subsequently, the price closes at the opening level at the end of the day, forming a Doji. The Doji indicates market indecision and a potential trend reversal. The volume of the doji’s day should also dry up, reflecting complete market indecision.
A confirmation of the reversal on the following day in terms of a lower close (preferably with high volume) would be needed to prove that the trend may be in a reversal.

To read about other Candlestick Patterns, go to: Learning Candlestick Charts.

Related Topics:
* Learning Charts Patterns
* FREE Trading Educational Resources You Should Not Miss

Monday, October 15, 2007

HARAMI BULLISH vs. BEARISH

Both Harami Bullish & Bearish are reversal patterns.
Whether the pattern is bearish or bullish reversal, it depends upon whether it appears at the end of a downtrend (Harami Bullish Pattern) or an uptrend (Harami Bearish Pattern).

Basically, these patterns consist of 2 candles:
The first day is characterized by a long body candle, followed by a candle whose body is completely contained within the range of the previous day's body.

These patterns imply that the momentum of preceding trend may have ceased or slowed down significantly, signaling a possibility of reversal.

Note:
Don’t confuse this pattern with the Engulfing Pattern. The candles in these patterns are actually just the opposite of the Engulfing Pattern.

HARAMI BULLISH PATTERN

Harami Bullish is a bottom reversal pattern / bullish reversal pattern.
It can be formed at the end of a downtrend, or during a pullback within an uptrend, or at the support.

When the price is a declining trend for some time, a two-candle pattern forms.
The body of the 1st candle is the same color as the current trend (should be a long black/red candle).
The body of the 2nd candle is white, which opens and closes within the body of previous day's candle.

What does this pattern imply?
When the price is in the midst of a strong declining mode, the buyers (bulls) suddenly step in and open the price higher than the previous day's close.
This shocks the sellers (bears), and they start covering their short positions quickly, causing the price to rise further. However, the short-covering rally can sometimes be tempered by the late comers who see this as an opportunity to short the trend they missed the first time, and as a result, a small candle that is still within the previous day’s body could be formed.
A confirmation of the reversal on the next day in terms of a higher close (preferably with high volume) would be needed to ascertain that the trend may be in a reversal.

HARAMI BEARISH PATTERN

Harami Bearish is a top reversal pattern / bearish reversal pattern.
It could be formed at the end of an uptrend, or during a bounce within a downtrend, or at the resistance.

When the price has been in a rally mode for some time, a two-candle pattern forms.
The body of the 1st candle is the same color as the current trend (should be a long white candle).
The body of the 2nd candle is black/red, which opens and closes within the body of previous day's candle.

What does this pattern imply?
During an increasing price trend, after a long white candle day, the next day, the sellers (bears) suddenly step in and open the price lower than the previous day's close.
Shocked by the sudden appearance of sellers (bears) that causes some deterioration on the existing increasing trend, the buyers (bulls) become cautious and begin taking their profits by selling their long position, causing the price to drop further. However, on the other hand, some late buyers might see this as an opportunity to buy the trend missed previously. As a result, the price may stay in a small range throughout the day, forming a small candle but it’s still within the previous day's body.
A lower close on the next day would be needed to prove that the trend may be in a reversal.

To read about other Candlestick Patterns, go to: Learning Candlestick Charts.

Related Posts:
* Learn Technical Analysis from Linda Raschke for FREE
* Learning Charts Patterns

Friday, October 12, 2007

Good Reading Links

Corey from Afraid To Trade: How Do We Play Overextended Conditions?

Dr. Brett Steenbarger from Traderfeed: Ten Generalizations That Guide My Trading

Stockbee: How To Trade Earnings?

Chris Perruna: A Technique For Profit Taking

Casey Murphy in Investopedia: Trade Broken Trendlines Without Going Broke

Dr. Bruce Hong in Trader Psychology: Assessing Trader’s Strength Part 1, Part 2, and Part 3.

Adam from Daily Options Report: Showed some interesting volatility behavior in his post “Speaking of Volatility”.

Have a nice & meaningful weekend ahead! :)

Wednesday, October 10, 2007

Major Candlestick Chart Patterns: BULLISH vs. BEARISH ENGULFING

Both Bullish & Bearish Engulfing are reversal patterns.
Whether a pattern is bearish or bullish reversal, it depends upon whether it appears at the end of a downtrend (Bullish Engulfing Pattern) or an uptrend (Bearish Engulfing Pattern).

Basically, these patterns consist of 2 candles:
The first day is characterized by a small body candle, followed by a candle whose body completely engulfs the previous day's body.
Shadows are not a consideration.




BULLISH ENGULFING PATTERN
Bullish Engulfing is a bottom reversal pattern / bullish reversal pattern.
It could be formed at the end of a downtrend, or during a pullback within an uptrend, or at the support.

Price has been declining for some time. Then a small black/red body occurs with low volume (1st day).
The next day (2nd day), the stock opens at new lows (below the close of the previous day’s candle) and then rises. The rise is accomplished by high volume, and finally closes above the open of the previous day, forming a long white candlestick.
In other words, the 2nd candle’s body (white candle) completely engulfs the 1st candle’s body (black/red candle).
This indicates buying pressure has overwhelmed the selling pressure, suggesting a potential reversal of trend.
If the following day the price is able to close higher, it provides confirmation to this bullish reversal pattern.

BEARISH ENGULFING PATTERN
Bearish Engulfing is a top reversal pattern / bearish reversal pattern.
It could be formed at the end of an uptrend, or during a bounce within a downtrend, or at the resistance.

Price has been in a rally for some time. Then, a small white body occurs with low volume (1st day).
The next day (2nd day), the stock opens at new highs (above the close of the previous day’s candle) and then falls. The fall is accomplished by strong volume and finally closes below the open of the previous day, forming a long black/red candlestick.
In other words, the 2nd candle’s body (black/red candle) completely engulfs the 1st candle’s body (white candle).
This indicates sellers (bears) have overwhelmed the buyers (bulls), suggesting a potential reversal of trend.
If the following day the price is able to close lower, it provides confirmation to this bearish reversal pattern.

To read about other Candlestick Patterns, go to: Learning Candlestick Charts.

Related Topics:
* Learning Charts Patterns
* Trading Videos on Technical Analysis You Should Not Miss
* Options Trading Basic – Part 2
* Understanding Implied Volatility (IV)
* Option Greeks

Saturday, October 6, 2007

How To Determine If An Option Is Cheap (Underpriced) Or Expensive (Overpriced) – Part 2

Go back to Part 1.

How To Determine If IV is High or Low? (Cont’d)

Example:



Picture courtesy of: ivolatility.com

For AAPL, the IV figures (gold colored line) range between 24% to 54%.
The peaks / highs of the IV charts are around 45% - 55%. When the IV is relatively high for the stock, that means the option’s price is relatively expensive.
On the other hand, the bottoms / lows of the IV charts are about 25% - 30%. When the IV is relatively low for the stock, that means the option’s price is relatively cheap.
The area between 35% - 40% seems like the average area. Hence, when IV is around this area, the option’s price can be considered quite “reasonable”, not “expensive” or “cheap”.
Notice that when the IV is at the peak or at the bottom, it tends to move back towards its average area.

Implied Volatility (IV) & Options Strategy Consideration
When IV is relatively low (option is cheap) and is expected to rise, buy options (i.e. consider options strategies to take advantage of the expected move that allow us to be an option buyer).
For example:
You expect the price to go up in the near term. Currently, the IV is also relatively low and it’s expected to increase, as it is approaching earnings announcement in a few weeks ahead. When you buy Call options, the option’s price could increase not only due to the rising stock price, but also as a result of the rising IV. Even when the price stays flat, the option’s price might still increase due to the increase in IV.
Buying Straddle or Strangle also can benefit from the rising IV.

When IV is relatively high (option is expensive) and is expected to drop, sell options (i.e. consider options strategies to take advantage of the expected move that allow us to be an option seller).
For example:
When you’re bullish, you may want to consider a Bull Put Spread, which allow you to sell options (and collect premiums) with a limited risk.
On the other hand, when you’re bearish, you can consider a Bear Call Spread.

To understand more about other aspects of Implied Volatility, go to: Understanding Implied Volatility (IV).

Related Topics:
* FREE Trading Educational Videos You Should Not Miss
* Option Greeks
* Learning Candlestick Charts
* Learning Charts Patterns
* Getting Started Trading

Wednesday, October 3, 2007

How To Determine If An Option Is Cheap (Underpriced) Or Expensive (Overpriced) – Part 1

As discussed before in the previous post, in options trading, Implied Volatility (IV) has a huge impact on an option’s price.
An option’s price can move up or down due to changes in IV, even though there is no change in the stock price.
Some times, for instance, we also find a stock price has gone up, however the Call option of the stock did not increase, but it decreased instead. This kind of case is not surprising if we understand the factors that affect an option’s price. The reason why this phenomenon happens is usually due to a drop in IV.

Therefore, before we buy or sell an option, it is important to check if an option is relatively cheap (underpriced) or expensive (overpriced).
An option is deemed cheap or expensive not based on the absolute dollar value of the option, but instead based on its IV.
When the IV is relatively high, that means the option is expensive.
On the other hand, when the IV is relatively low, the option is considered cheap.

How To Determine If IV is High or Low?
Often, we come across some articles which suggested the way to evaluate if an option is cheap (underpriced) or expensive (overpriced) is by comparing IV against HV at a particular point of time.
When IV is considerably higher than HV, it means an option is expensive. On the contrary, when IV is much lower than HV, an option is considered cheap.

However, the problem is that IV is hardly related to HV, because IV is a prediction of stock’s future fluctuation for the next 30 trading days, while HV is a measure of stock’s fluctuation over the past 30 trading days. IV usually takes into account news or the coming important events. When an important event is expected to happen in the next 30 days (e.g. earnings announcement, FDA approvals, etc.), Implied Volatility will be relatively high. However, this may not be reflected in the “what has happened” during the past 30 days. Therefore, actually we can’t really compare IV vs. HV figures at a particular point of time.

To determine if an option is cheap (underpriced) or expensive (overpriced), IV figure at a particular point of time should be compared against its past IV trend.
Typically, IV (and HV as well) will oscillate from a period of relatively low volatility to a period of relatively high volatility. When IV is relatively high or low, normally it will tend to move back towards its average value. This pattern can be used to assess the reasonableness of an option’s price.

We’ll discuss an example and how to advantage of IV movement in Part 2.

To understand more about Implied Volatility, go to: Understanding Implied Volatility (IV).

Related Topics:
* Options Trading Basic – Part 2
* Option Greeks

Tuesday, October 2, 2007

Understanding Candlestick Formation – Part 4: DRAGONFLY DOJI & GRAVESTONE DOJI

The following are some form of Doji candlestick (Cont’d):
(Please refer back to Part 3 for the pictures of each of the following formation)

3) Dragonfly Doji
Dragonfly doji is formed when the Opening and Closing price are at the High of the session (i.e. Open = Close = High) and the Low price creates a long lower shadow, resulting in a candlestick with a long lower shadow and no upper shadow (Looks like a "T").
Dragonfly doji indicates that sellers dominated trading and pushed the price lower in the beginning of session. However, towards the end of the session, buyers reemerge and drove the price back to the opening level and the session high. This signals a potential trend reversal.

Dragonfly doji may imply a trend reversal depending on previous trend and future confirmation.

After a downtrend, or during a pullback within an uptrend, or when it’s formed at the support, the appearance of Dragonfly Doji could signal that a turning point is nearing (i.e. potential bullish reversal).
Because when the price has been in a declining mode for some time, the ability of the price actions to rally back to its highest level after the sell-off at the beginning of session shows some evidence that the bulls (buyers) might just have begun to step in again.
The following day needs to confirm its bullish reversal signal with a strong bullish day (e.g. a gap up or a long white candle on a high volume).

After an uptrend, or a bounce within a downtrend, or when it’s formed at the resistance, the appearance of Dragonfly Doji could signal that a turning point is nearing (i.e. potential bearish reversal).
For a Dragonfly Doji to appear, the price must first trade much lower than where it opened, and then it rises to close at its high point at the end of the day. The long lower shadow formed shows some indications that the selling pressures might have just begun. Although the bulls managed to regain control and drove the price back to its highest level at the close, the appearance of selling pressure suggests some signs of caution. The next trading day needs to confirm its bearish signal with a strong bearish candle (e.g. a gap down or a long black/red candle on a high volume).

4) Gravestone Doji
Gravestone doji is just the opposite of Dragonfly doji.
Gravestone doji is formed when the Opening and Closing price are at the Low of the session (i.e. Open = Close = Low) and the High price creates a long upper shadow, resulting in a candlestick with a long upper shadow and no lower shadow (Looks like an upside down "T").
Gravestone doji indicates that buyers dominated trading and pushed the price higher since the beginning of session. However, towards the end of the session, sellers resurfaced and drove the price back to the opening level and the session low. This signals a potential trend reversal.

Gravestone doji may imply a trend reversal depending on previous trend and future confirmation.

After a downtrend, or a pullback within an uptrend, or when it’s formed at the support, the appearance of Gravestone Doji could signal that a turning point is nearing (i.e. potential bullish reversal).
Because for a Gravestone Doji to form, the price must first trade much higher than where it opened, and then it drops to close at its low at the end of the day. The long upper shadow formed shows some indications that the buyers (bulls) might just have started to step in. Although the sellers (bears) managed to regain control and push the price back at its lowest level at the close, the appearance of buying pressure raises some concerns.
The next trading day needs to confirm its bullish reversal signal with a strong bullish day (e.g. a gap up or a long white candle on a high volume).

After an uptrend, or a bounce within a downtrend, or when it’s formed at the resistance, the appearance of Gravestone Doji could signal that a turning point is nearing (i.e. potential bearish reversal).
Because when the price is has been in a rally mode for some time, the ability of the price actions to drop back to the lowest point after the rally in the beginning of session demonstrates some indications that the sellers (bears) might have begun to step in again.
The following day needs to confirm its bearish reversal signal with a strong bearish day (e.g. a gap down or a long black/red candle on a high volume).

Related Posts:
* Learning / Understanding Candlestick Charts
* Learning Charts Patterns