Candlestick patterns in trading: description, features and recommendations

2024 Author: Howard Calhoun | [email protected]. Last modified: 2023-12-17 10:16

Candlestick patterns are one of the fundamentals in technical analysis. They can help predict a trend reversal or continuation, as well as provide a lot of other useful information. For example, to show how strong the uncertainty is at the moment and which of the market participants is in the lead, namely, the preponderance of buyers or sellers. There are a great variety of candlestick patterns, but they are all based on similar principles that reflect the behavior of traders.

What is this

When it comes to what are candlestick analysis patterns, then, most likely, Japanese candlesticks are meant. This is a type of chart used in trading. They are used regardless of the asset and instrument, be it serious trading on the stock exchange, futures contracts or working on Forex with a small deposit with some little-known broker.

Japanese candlesticks are probably the most popular way to chart price. This is due to the high information content and at the same time the simplicity of this tool. In addition, many different indicators work on the basis of candlesticks,which is part of the trading strategies of many traders around the world.

Structure of a candle

Before starting to describe what candle patterns are, it is important to understand the very instrument in question. So, candles are bullish - those that go up, and bearish - going down. As a rule, they are drawn in different colors. The most popular colors are green or white for bullish candles and red (often black) for bearish candles. However, many platforms allow the trader to customize the color scheme.

Japanese candle has a body in the form of a vertical bar on the chart. It can be different, for example, short, long, square or very small. This is important information about the current price momentum, the strength of the price direction will depend on the size.

It is also important to note that candles have the same shape and construction principle, regardless of what time period they have chosen. This is very convenient, for example, when analyzing trends and determining price levels. The speed of formation of one candle will depend on the selected timeframe (time period), which means that on M1 it will be equal to a minute, and on H1 - an hour.

Shadows

This is a very important part of working with Japanese candlesticks, besides, from this moment you can start describing candlestick patterns. The shadow is a thin vertical stripe that extends from the body of the candle. It shows a small rollback of the price at the time of the opening of the candle, respectively, it can be both at the top and at the bottom. Such candles have separate names, for example, they can be pinbar, doji, hammer and many others. Each carries certain information, such as an upcoming reversal, strong uncertainty, or a continuation of the current trend. The most significant signals will be described below.

Models

Candlestick patterns can be divided into two types: bearish and bullish. As you know, the former are associated with a downward price movement, while the latter, on the contrary, predict an upward direction. They are also called trend reversal candlestick patterns. Despite the usefulness of such combinations, they do not guarantee a price change, and a trader should take into account many factors, such as the current market situation, the selected timeframe (the situation on a minute or five-minute chart can be very different from the situation on an hourly or daily chart). It is also recommended to use support and resistance lines, trend lines and follow the news. Below are the most popular and most effective candlestick patterns.

Bullish engulfing

One of the most powerful and at the same time simple combinations. Represents a short bearish candle followed by a long bullish one. Indicates an upcoming uptrend reversal. However, it is important to monitor the price behavior, if it is a consolidation (wave-like, lateral movement), then the effectiveness of this, and other patterns, will be rather doubtful.

Hammer

Candlestick reversal patterns can only consist of one candle, and this is an example. As a rule, it appears after a downtrend, at the moment of weakening of the "bears". This candle really looks like a hammer due to its shadow at the bottom and a fairly short body at the top. As a rule, this pattern predicts the subsequent uptrend.

Three stars

Very unusual candle pattern.

Represents three cross-shaped candles. It is a universal model, as it can indicate a price change both up and down. Apply depending on the previous trend. The efficiency of this model will be slightly lower than the previous ones, if only because it is quite rare due to strong market noise, but it is quite suitable for use.

Bearish engulfing

The opposite of bullish. After the candle, there is a longer bearish candle up, indicating that the sellers have strengthened in the market and a downtrend is expected. As well as in the case of bullish engulfing, it is important to follow the price and not rush, the appearance of a pattern does not give a 100% guarantee that the situation will change.

Evening Star

Here we see two candles at the top, the second of which "hangs" with the help of its shadow, and then the price reverses and changes direction. The model is very effective and indicates a downward market reversal. It is especially effective if the price reaches a certain level that was notbroken up to this point. There is also a variation called "morning star" - about the same principle, but the price goes up. Quite an effective pattern that often works.

Other combinations

In addition to the above combinations, there are dozens of variations of candlestick patterns. For example, pinbars, which, as a rule, indicate uncertainty with one or another bias in relation to the direction of the trend. There are also variations of the "evening star" model, with similar principles and construction. Combinations often have fancy names, usually based on their appearance, such as three soldiers (3 bullish candles of the same size) or dark cloud cover (a variation of bearish engulfing). By the way, it is not necessary to know all the models, it is better to hone the use of the most frequent and understandable ones specifically for you. This will help save time and also increase the efficiency of your trading or training. Strong candlestick patterns are not a guaranteed key to success, but an important step towards it.

Signals

Very controversial question: "Is it worth it to install and use various auxiliary indicators?" It all depends on the experience, nature and trading style of the trader. Now we will not talk about generally accepted and popular indicators, such as the relative strength index or Bollinger waves, but rather about specialized systems. These can be installed on the MetaTrader terminal - there are a lot of them on the Internet. For example, some indicator of candlestick patterns with an alert that will signal the trader aboutthat there was one or another combination. They can be based on various principles such as candle size, number, value, and many other factors.

Experienced traders create their own indicators that recognize candle patterns. Forex, stocks, futures or binary options - it does not matter, since the principle of plotting a price chart is the same everywhere.

If we return to the question regarding the use of indicators, we can conclude that someone will suffer losses and make fewer correct entries, while the other trader will increase the percentage of profitable trades. This is primarily due to the basics of trading, because the signal about the appearance of a combination does not guarantee that it will work correctly.

Results

It is very important to remember that candle combinations do not give any guarantee of successful trades. Being able to identify them will give a trader an extra edge, but trading based on patterns alone is not a good idea. Technical analysis is a cumbersome and complex system that includes many components, such as determining the trend, support and resistance lines, working with various indicators, oscillators and volumes. In addition, trading psychology is important, understanding that the market is primarily a reflection of the actions of other people, and not just numbers and charts.

If we go back to candlestick patterns, the ones described above are only a small part of what exists and can be used. There are specialized resources and literature related to candlestick analysis where you canmeet a more detailed description of many other models.

It is important to note that it is better to practice on demo accounts or work with small amounts, honing the skills of entering a trade based on the use of candlestick patterns. It is not worth risking the deposit once again by checking this or that model. Even if something has worked well several times, it still does not give any guarantees in the future. Remember: trading is first and foremost risk management and proper management of equity used in the work.