Are you interested in learning the fundamentals of professional technical analysis? if yes, keep reading.
If you are a complete beginner to the trading space, we advise you to start from our forex trading tutorial for beginners.
If you have some basic knowledge of the field, or even have good experience, I am confident that you will find value in this technical analysis basics tutorial.
The information contained in this technical analysis basics tutorial is the essence of accumulated trading and technical analysis experience from several technical experts.
We ask you to be patient while reading, especially in the beginning. If you feel that a topic is not clear, just keep going, it will be clearer by the end of the tutorial.
Note: We are using tradingview as our charting platform for this tutorial.
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Before we dive into the japanese candlstick patterns. An important intro is needed to put things into the right perspecitve.
Japanese candlesticks charting was first used in Japan a couple of centuries ago. They were used mainly on commodity market(specifically rice). In recent decades, Steve Nison, an american technician brought this charting technique to the west.
Having that in mind, most of the candlestick patterns are best used in markets that close on daily basis, like ths stocks, commodity futures, and so on. And most of the patterns are either not applicable in the Forex Markets or not reliable enough.
In this section, we will introduce some of the most effective candlestick patterns.
So let’s get started.
We mentioned earlier the Candlesticks are a way of representing the price. Where each candle consist of the opening, closing, high and low of the period. Whether the period was a day a week or an hour.
The candlestick shape is a great visual representation of what has happended during the time period.
For example, examine the following candle.
The candlestick above shows that the price has moved noticeably higher during the period, but retreated back lower to close the period below the open price.
That indicates that the buying was more than the selling, therefore the price moved higher. But afterwards, that was reversed. The selling became more than the buying, and the price moved lower again, and the closing price of the period was below the open price. This action between buying and selling has resulted in the shape of candle you see above.
The action between buying and selling can result in different and several candle shapes. These shapes are called candlestick patterns, and we will discuss some of the most important patterns. These shapes can give indication of the next price direction.
The Doji Candlestick Pattern and its Siblings
Shape: The Doji is a small candle. Its open and close are equal or almost equal, and happen near the middle of the candle. its upper and lower shadows are short.
In reality, the open and close doesn’t necessarily have to be qual. As long as the body of the candle is very small compared to the shadows, then its a doji candle. And this rule applies to all of its variations that we will explain shortly.
Explanation: The candle suggests that trading action during the period was weak and buying and selling was in equilibrium at the end.
Indication: doji candles should be ignored as they dont have a reliable direction indication.
Remember: The price trend direction preceding the candlestick pattern is the most important factor when assessing the candlestick likely outcome(bullish or bearish).
Long Legged Doji Candlestick Pattern
Shape: The long-legged doji is a long doji. It’s a more reliable variation of the doji. As Its shape is exactly like a doji but with long upper and lower shadows, suggesting a more active period. Also , its open and close are equal or near equal.
Explanation: The long-legged doji suggests that trading was active during the period. Both buyer and sellers pushed the price in both directions in a wide trading range. But at the end the price settled near the middle indicating equilibrium.
Indication: If forms after an uptrend, the pattern suggests the buying pressure is no longer controlling. It is fifty-fifty now between buyers and sellers. Therefore, the uptrend may stop for correction or reversal. The opposite is true if the pattern forms following a down trend.
Dragonfly Doji Candlestick Pattern
Shape: The dragonfly doji is a long doji. But the opening and closing price are equal or near equal to the high of the period.
Explanation: The dragonfly doji suggests that trading was active during the period. Selling starts to push the price lower directly after the period opens. But buyers manage to regain hand, and push the price to close the period near the high and open price.
Indication: The dragonfly pattern is usually a bullish pattern. The pattern has bullish implication, unless the price breaks the low of the dragonfly candle, that would signal bearish direction likely.
Gravestone Doji Pattern
Shape: The gravestone doji is a long doji. But the opening and closing price are equal or near equal to the low of the period.
Explanation: The gravestone doji suggests that trading action was strong during the period. Where buying starts to push the price higher directly after the period opens. But sellers manage to regain and push the price to close the period near the low and open price.
Indication: The gravestone candlestick pattern is usually a bearish pattern. Unless the price breaks the high of the dragonfly candle. In such case expect bullish direction.
Hammer and Hanging Man Patterns
Hammer Candlestick Pattern
Shape: The hammer candle looks like a dragonfly candle, with a small difference. In a hammer the opening and closing of the period are not equal, and can happen anywhere in the upper third of the candle body. The body can be white or black.
Explanation: The hammer candle suggests that trading action was strong during the period. Where selling pushes the price lower. But buyers manage to regain and push the price to close the period near the open.
Indication: The hammer candlestick pattern must be preceded by down trend. It has a bullish indication. Unless the price breaks the low of the hammer candle.
Remember: The body should be smaller relative to the shadows. A general rule of thumb is that the shadow must be at least twice the size of the body.
If the same shape of the a hammer forms in an uptrend, it’s called a hanging man.
Hanging Man Candlestick Pattern
Explanation: The hanging man candle suggests that trading action was strong during the period, as the trend is up. Where selling pushes the price lower. But buyers managed to regain and push the price to close the period near the open.
Indication: The hanging man candlestick pattern must be preceded by an up trend. The pattern has bullish indication. Unless the price breaks the low of the hanging man candle.
Shooting Star and Inverted Hammer Patterns
Shooting Star Candlestick Pattern
Shape: The shooting star candle look like a gravestone candle with a small difference. In a shooting star, the opening and closing of the period are not equal, and can happen anywhere in the lower third of the candle body.
Explanation: The shooting star candle suggests that trading action was strong during the period. Where buying push the price significantly higher. But sellers manage to regain and push the price to close the period near the low and open price.
Indication: The shooting star pattern must be preceded by an uptrend. The pattern has bearish indication. Unless the price breaks the high of the shooting star candle.
In the above chart example, the first shooting star didn’t result in a bearish reversal, only a narrow sideways correction(called consolidation).
Above chart is a clear illustration of how you can use candlestick patterns to trend trade. As the price was trending down, before moving for a couple of days higher in a pullback. That was followed by the shootings star pattern, signalling a possible sell trade in the direction of the main down trend.
If the same shape of the shooting star forms in a downtrend, its called inverted hammer:
Inverted Hammer Candlestick Pattern
Explanation: The inverted hammer candle suggests that trading was active during the period. Where buying push the price significantly higher. But sellers manage to regain and push the price to close the period near the low and open price.
Indication: The inverted hammer candlestick pattern must be preceded by an downtrend. The pattern has bearish indication. Unless the price breaks the high of the inverted hammer candle.
Engulfing Candlestick Pattern
The engulfing is a long candle with a body that covers the preceding candle body. It engulfs the prior candle or candles bodies(ignore shadows).
Bullish Engulfing Candlestick
Shape: The candle open at the price of the close of the prior candle, and closes above the open price of the prior candle.
Explanation: The bullish engulfing candle suggests that trading was active during the period. Where buying was in control and pushed the price higher to surpass prior candles open to close range.
Indication: The bullish engulfing pattern indicates that the prior down trend could be reversing.
Bearish Engulfing Candle
Shape: the exact opposite of a bullish engulf. The candle is a down red candle that opens at the close of prior candle and closes below the open of prior candle.
A a more reliable variation of the bullish and bearish engulfing candles, is when the candle not only covers the prior candle body, but also the shadow.
Tweezer Top And Bottom Candlestick Patterns
Shape: Tweezer patterns consist of two successive candlesticks that have equal, or very near to equal highs (for tweezer top) or lows (for tweezer bottom).
In a tweezers top, first candle is white and second black. And the opposite for a tweezer bottom.
Explanation: In a tweezer top, the price is in an uptrend and records the high on the first candle of the pattern. Afterwards, the price tries to break that high but fails and finds selling pressure moving back lower.
Indication: The tweezer top pattern suggests a downside reversal or pullback.
The exact opposite is true for tweezer bottoms.
– ALL candlestick patterns MUST be preceded by a directional trend or wave to be valid.
– A general rule of thumb: the longer the candle the better the quality of the pattern.