Piercing Pattern: Definition, Formation, and Strategies

As India’s growth story has picked up pace, people are experimenting with investments that were not conventionally followed in this part of the world. Just a couple of decades ago, stock markets were a thing of the elite. But over the years, the masses have broken through the shackles and started investing in the Indian stock markets.

While equity investments provide good returns and liquidity, they involve high risk. However, there are tools like fundamental & technical analysis used by investors to minimize risk in the stock markets. One such technical analysis tool is “Piercing Pattern”. Keep reading to learn how you can use this tool to your advantage!

What Is a Piercing Pattern?

As the name suggests, a piercing line pattern refers to a candlestick formation that shows the effect of piercing through an ongoing trend to reverse it. It can be both bullish & bearish depending on the preceding trend.

Bullish Piercing Pattern

So, here’s the definition of a bullish piercing pattern:

In an ongoing bearish trend, 2 consecutive candles are formed such that:

• The first candle is bearish
• The second candle is bullish and shows the following:
  • A Gap down opening from the close of the first candle, and
  • The price closes above the midpoint of the bearish candle, i.e. above 50%

The following image represents a bullish piercing pattern.

*Red Candle: A bearish candle with a lower closing price than the opening price.

**Green Candle: A bullish candle with a higher closing price than the opening price.

Bearish Piercing Pattern (Dark Cloud Cover)

It is the polar opposite of the bullish pattern. So, here’s the definition of a bearish piercing line pattern:

In an ongoing bullish trend, 2 consecutive candles are formed such that:

• The first candle is bullish
• The second candle is bearish and shows the following:
  • A Gap up opening from the close of the first candle, and
  • The price closes below the midpoint of the bullish candle, i.e. below 50%

The following image represents a bearish piercing line pattern.

Also Read: Tweezer Bottom Pattern

Understanding Piercing Pattern

When we discuss the piercing line pattern, whether it is bearish or bullish, it is more important for traders to interpret it correctly to unlock the pandora’s box. Here’s a comparison to know the difference:

Pointers	Piercing Pattern (Bullish)	Piercing Pattern (Bearish)
Type of Pattern	Bearish Reversal / Bullish	Bullish Reversal / Bearish
Aka	Bullish Piercing Line Pattern	Bearish Piercing Line Pattern / Dark Cloud Cover
Preceding Trend	Bearish Trend	Bullish Trend
Formation Candle 1	Bearish Candle	Bullish Candle
Formation Candle 2	Bullish Candle: Gap Down Opening Closes above 50% of Candle 1	Bearish Candle: Gap up Opening Closes below 50% of Candle 1
Confirmation	Indicators that confirm the pattern: Increased Volume The pattern occurs near Moving Averages The pattern occurs near important Support Level RSI indicates Oversold The 3rd candle opens with a gap up and is bullish External factors	Indicators that confirm the pattern: Increased Volume The pattern occurs near Moving Averages The pattern occurs near important Resistance Level RSI indicates Overbought The 3rd candle opened with a gap down and is bearish External Factors

How Does a Piercing Pattern Work?

Now that you have learned how to identify the piercing pattern, the next step is to understand where you can enter the trade and what is the expected return on investment. Here’s how traders interpret the piercing price pattern to make profitable trades:

Pointers	Bullish Piercing Pattern	Bearish Piercing Pattern
Type of Trade	Buy for rise in price	Sell / Short Sell for a fall in price
Steps to Identify	Identify the Pattern Confirm the Pattern	Identify the Pattern Confirm the Pattern
Entry Point	At the opening of the third candle After prices retrace a bit	At the opening of the third candle After prices recover a bit
Stop Loss	Just below the lower wick of the bullish candle	Just above the highest price of the bearish candle
Target Price	Can be decided based on: Difference between 1st Candle high & 2nd candle low Resistance Levels Historical Price Data Trendlines Comparative fundamental ratios of industry & the stock Fibonacci Retracement Recent Swing highs and lows 50-200 days moving average Formation of a bearish pattern Trailing stop loss when you are unsure of the target	Can be decided based on: Difference between 2nd candle high & 1st candle low Support Levels Historical Price Data Trendlines Comparative fundamental ratios of industry & the stock Fibonacci Retracement  Recent Swing highs and lows 50-200 days moving average Formation of a bullish pattern Trailing stop loss when you are unsure of the target

Example: Piercing Line Pattern

Let’s see a practical example of the Bullish Piercing Pattern in the Nifty 50 chart.

Identification Factors	Explanation
Preceding Trend	A downtrend followed by a strong support zone just below the bearish candle
Candle 1	Bearish Candle was formed on 14th October 2022 Closing Price: Rs. 17,185.70
Candle 2	Bullish Candle was formed on 17th October 2022 Gap Down Opening: Rs. 17,144.80 Closing Price: Rs. 17,311.80 (>50% of Candle 1)
Confirmation	Nifty had struck a strong support just before the piercing-pattern In the Support Zone, the chart shows the formation of a Tweezer Bottom Pattern with volumes more than 1.8 times
Entry Point	Opening of Candle 3 on 18th October 2022 at Rs. 17,438.75
Stop Loss	Below the Lower Price of Candle 2: Rs. 17,050
Target met on 1st December	As per the previous Swing Rs. 18,500 With Trailing Stop Loss: Rs. 18,800
Profit within 43 days	Minimum: 6.09% (equivalent to 51.69% p.a.)  Maximum: 7.81% (equivalent to 66.29% p.a.)

The following image shows the chart of Nifty in the discussed time frame:

We use the trailing stop loss method when the target price is uncertain. As the price of a stock goes up, we place a stop-loss order below the previous closing price.

Is the piercing pattern bullish or bearish?

Piercing patterns can be both bullish or bearish, depending on the direction of the preceding trend. Here are the key characteristics of both the patterns:

• Bullish Piercing Pattern 
  • The market is in a downtrend with consecutive bearish candlesticks
  • The price can be close to an important support level
  • 2 consecutive candlesticks are formed:
    • 1st Candle: A large bearish candlestick 
    • 2nd Candle: A bullish candlestick that opens below the previous day’s low and closes above the midpoint of the prior day’s candle
  • This suggests:
    • a potential reversal of the downtrend 
    • buying pressure has overwhelmed the selling pressure
• Bearish Piercing Pattern
  • The market is in an uptrend with consecutive bullish candlesticks
  • The price can be near an important resistance level
  • 2 consecutive candlesticks are formed: 
    • 1st Candle: A large bullish candlestick 
    • 2nd Candle: A bearish candlestick that opens above the previous day’s high and closes below the midpoint of the prior day’s candle. 
  • This suggests:
    • a potential reversal of the uptrend
    • selling pressure has overwhelmed the buying pressure

In a nutshell

• The piercing patterns shows trend reversal
• It can be both bullish or bearish
• To confirm the pattern you should check other factors like,
  • Preceding Trend
  • Support/Resistance Levels
  • Volumes
  • RSI overbought/oversold
  • External Factors
  • Fundamental Analysis
• You can set the targets in many ways as discussed in this blog
• Monitor the price fluctuations closely
• Always keep a trailing stop loss as a safety net

If you follow all the steps discussed in this blog, you will be able to profit from the piercing patterns whenever you see it in a stock’s chart!

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