How to Trade the Stick Sandwich – Candlestick Pattern
Stick Sandwich Definition
The stick sandwich pattern can occur in both bull and bear markets. The stick sandwich pattern consists of three candlesticks, where one candlestick has an opposite colored candlestick on both sides. The closing prices of the two candlesticks that surround the opposite colored candlestick must be same.
Bearish Stick Sandwich Charting Example
The bearish stick sandwich is a rare candlestick pattern. The first candlestick in the formation is a long white (green) candlestick that closes near its high. The second candlestick is a black (red) candlestick that gaps down from the previous close and closes below the previous day's open. The third candlestick is a white (green) candlestick that completely engulfs the second candlestick and has the same closing price as the first candlestick. Traders should wait for the low of the third candlestick to be broken prior to taking any short positions.
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Bullish Stick Sandwich Charting Example
The bullish stick sandwich is a rare candlestick pattern. The first candlestick in the formation is a long black (red) candlestick that closes near its low. The second candlestick is a white (green) candlestick that gaps up from the previous close and closes above the previous day's open. The third candlestick is a black (red) candlestick that completely engulfs the second candlestick and has the same closing price as the first candlestick. Traders should wait for the high of the third candlestick to be broken in the bullish stick sandwich formation prior to taking any long positions.
Examples of Stick Sandwich Chart Pattern
Let us now review real-life chart examples of the stick sandwich pattern. Again, the stick sandwich can have a bearish and bullish characteristic.
Bearish Stick Sandwich Candlestick Pattern
This is the 10-minute chart of Bank of America from July 1, 2015. In the red square, you see the bearish stick sandwich candlestick pattern.
The first candle of the pattern is bullish and closes near its high. Next, a bearish candle develops with a small gap and closes below the first candle of the pattern.
The third candle is bullish and fully engulfs the bearish candle. The last sign of the bearish stick sandwich is the third candle closes near the closing price of the first candle.
After the pattern completes, the price reverses sharply over the next couple of hours.
Bullish Stick Sandwich Candlestick Pattern
After a price decrease, JPM begins to form a bullish stick sandwich candlestick pattern.
The first bearish candle closes near its low. Then the second candle is bullish, gaps up from the previous candle, and closes near the open of the first candlestick of the pattern.
The third and final candlestick completely engulfs the second candlestick and closes near the closing price of the first candle of the pattern.
After the confirmation of the pattern, the stock begins an impulsive move higher, resulting in a 71 cent increase.
How to Manage Risk when Trading the Stick Sandwich Pattern
Now that you can recognize the stick sandwich on the chart, let us now cover a few methods for how to manage risks when trading the pattern.
How Much Should You Risk?
There is a common saying that equity traders should not risk more than 2 to 3% of their capital in a single trade – which I whole-heartedly believe.
Now, if we use the premise of a maximum drawdown per trade of 1% with a success rate of 20%, what would be the results?
- Imagine you have a bankroll of $10,000 and instead of risking 3%, again you only risk 1% of your capital per day trade; this means that a single trade could result in a maximum loss of $100.
- You use a trading strategy, which gives you a 20% success rate, which is 1:5 ratio.
- At the same time, your strategy gives you a 6:1 risk-to-return ratio, or a 6% price target per trade.
Some of you will instantly say “Hey! This system will not work and you will surely lose your bankroll!”
Let us now calculate the results from five consecutive trades using this money management strategy starting with $10,000 in capital.
- Your first trade is a loser and results in a $100 loss.
- You invest $9,900 in an unsuccessful trade. You lose $99.
- You invest $9,801 in an unsuccessful trade. You lose $98.01.
- You invest $9,702.99 in an unsuccessful trade. You lose $97.02.
- You invest $9,605.96 in a winning trade. Your trade is a 6% winner resulting in your account shooting back up to $10,182.32.
This is how a strategy with only a 20% success rate can actually turn into a profitable trading system.
Full disclosure, I cannot trade with such a low winning percentage. I need to constantly feel the money flowing into my account. After 4 or 5 consecutive losers, I am susceptible to bending my rules to account for the losses.
If you suffer from the need to win like me, then this approach will not work for you.
Now, shifting gears back to our stick sandwich candlestick pattern. Since it is a three-candle formation, it is considered more reliable than the two or one candlestick patterns.
For this reason, it is likely to give you at least a 50% success rate versus the 20% as illustrated above. You of course will need to test out the strategy to find the right level of risk/reward for you, but the math supports the theory that you can turn a profit.
How to Place a Stop Loss when trading the Stick Sandwich Reversal Patterns
When you trade stick sandwich candlestick formations, you should always use a stop loss. Let me step back for a second, with any trading system – you must use a stop loss!
No matter how good you think you are, at some point the market will take you for a ride if you let her.
Back to how to place a stop loss with the stick sandwich formation, you should place the order right below the low of the bullish candlestick pattern and the high of the bearish candlestick pattern.
This is the same JP Morgan chart from the previous example, but this time we have placed a stop loss order below the bullish stick sandwich pattern.
The great thing about the stick sandwich pattern is that you can keep a tight stop. This way you can increase your risk to reward ratio on each trade.
Taking Profits when trading the Stick Sandwich Reversal Pattern
The suggested price target for the stick sandwich pattern is three times the size of the formation.
Once the stock has moved three times the size of the formation, there are two simple tactics you can use to take profits:
- Close a portion of the trade (one-third or half). This way if the price starts moving against you, you have booked profits and limited your downside risk. On a positive note, if the stock continues higher, you can take advantage of the upside without the stress of carrying the entire position.
- Adjust your stop loss order below the low of the candlestick, which hits the price target. Now that you have placed your stop, you can then use a simple moving average or price action to keep you in the trade.
Putting it All Together
Let’s now put it all together to illustrate how to trade the stick sandwich pattern.
This is the 5-minute chart of Morgan Stanley from Dec 18, 2015 illustrating a bullish stick sandwich (highlighted in the green rectangle).
The first candlestick in the formation is bearish and closes near its low. The second candlestick opens with a gap and closes above the first candlestick.
The third candlestick is bearish and engulfs the second (bullish candle) - closing at approximately the same level of the first candlestick.
Everything looks great based on the requirements of the formation and we go long, with a stop loss order right below the low of the pattern.
Morgan Stanley starts moving higher as expected and reaches our price target of three times the formation, 25 minutes after opening the trade.
Once reaching our price target, we adjust our stop loss order below the candle that hit the target.
Notice that the price starts to rollover for two candlesticks, but our stop loss remains untouched and Morgan Stanley is able to rally higher.
However, the next candle is a doji reversal pattern, which implies that this might be the end of the trend. For this reason, we adjust our stop below the doji candle as shown on the image (Stop 3). The next candle is bearish and hits our stop and we exit the trade.
- The stick sandwich candle pattern is a rare chart occurrence where two candles sandwich another one.
- The pattern has a reversal characteristic.
- The sandwich pattern is a rare chart occurrence.
- When we trade a sandwich candle pattern, we should pursue a minimum profit equal to three times the size of the formation.
- A stop loss should be placed below the pattern.
- A proper stick sandwich trading strategy should lead to at least a 3:1 return-to-risk ratio.