This is a problem I often dealt with as a starter. While I was reading through forums, I have noticed that most of the starters, including myself back then, have troubles with opening position properly. Most of the strategies alert you once the price hits the spot for opening a position. With an indicator it’s the same story. You get the alert but you still don’t know when exactly the right moment is?! Price reaches the spot where you are supposed to open position, but after few moments it goes back leaving you with no clue whether you should do it, or not.
I am going to explain you how to open position and you can apply this to ALL the strategies, regardless of which strategy or indicator you use. Even if it’s a technical analysis, you still need to open your position properly.
The only exception is – pending order. With them you don’t need to wait for a signal. According to the rules of strategy you pick the best place for trade entry and after price reaches the spot, the pending order is activated and position opening command is executed.
What is confirmation candle
Solution for such a common problem as finding the right spot for position opening is fairly simple – a confirmation candle. The first candle always triggers the strategy or indicator’s signal that informs you how you should open position according to the strategy rules. You have to wait for this candle to end in order to know what you deal with.
This is where most of inexperienced traders make a mistake. They think how signal is activated; they open position just to see the candlestick to go in the opposite direction. So, the first step is to wait for candle to close. It is so-called alert candle which alerts you that strategy conditions are fulfilled. Then it’s necessary to wait for confirmation candle to confirm everything’s fine. This is when you open position.
Trendline & confirmation candle
Example above illustrates a standard trendline drawn through the peaks at point 1 and 2. I drawn a line and waited for the price to reach trendline area which happened at point 3. What happens next? Should I, or should I not open position immediately? The price made its break through the trendline thus I can’t be sure if it’d be smart to open sell position as price might as well carry on with uptrend. To make things worse, the candle remains active bouncing up and down.
What you would have to do in this case is to wait for the alert candle to close. Regardless of the place where it closed, above or under the trendline, it’s still not the right moment to open position.
Candle finally closes at the same spot as shown on the illustration.
Our previous candle closed and is tagged as candle 1 now. Afterwards, another candle opened, which closed under our trendline. Thus, the second candle confirmed (confirmation candle) the downtrend, after which you can open a sell position. Now you can have a better view at why it’s called a confirmation candle. If candle closed above the trendline by any chance, we wouldn’t have a valid confirmation it would be good to open position. Have a look what happened next:
Price carried on in a good direction, as predicted, making some profit.
As I have said at the beginning of the text, use candlesticks in all the strategies and always wait for the second one to confirm the good signal you are receiving. If the signal is fake don’t open position. You should always wait for the second confirmation candle regardless of whether you use support and resistance lines, channels, pivot points or applying rules of any other strategy.