What Is Candlestick Chart
Candlestick charts in trading are price charts that show trends and
reversals, in which the prices are denoted by candlesticks. Candlestick
charts are easy to read and are one of the oldest studies in technical
analysis. They originated in Japan over 100 years before the bar and
point and figure charts were developed in the western markets.
Candlesticks are formed by showing a candle “body”, a solid area between
the open and close price, and “wicks”, which represent the high and low.
Sometimes a solid candle can be formed when the open was the low and
the close was the high, and thin candles with less of a solid body can be
formed when a price is volatile and ranges a lot within the day.
Candlestick charts capture not only the link between the price and supply
and demand but also the emotions of traders. The investors' emotion is
highlighted by visually representing the size of price movements with
different colours. A green candle is considered bullish as for that timeframe
buyers are in control while a red candle is considered bearish as for that
timeframe the bears or sellers are in control.
Five Most Powerful Candlestick Chart Patterns for Forex
Trading
Let’s take a look at five of the most widely used candlestick patterns
alongside some actual stock chart examples to show their worth.
1. Bullish And Bearish Engulfing
The bullish engulfing pattern is a two candle reversal pattern. After the first
dark candle appears, a second larger and hollow one forms and engulfs the
body of the first one. Usually this sort of pattern will tell a trader the price
has moved down, found some support or buying volume, and then made a
bullish move back up by breaking the previous day’s high. Often this type of
candle can be the signal for a sustained upward move or trend change.
Likewise, a bearish engulfing candlestick pattern indicates a change of
market trend, from an uptrend to a downtrend. It is a two-line pattern with
the first candle being red followed by a green candle and the green
candle’s body overlapping or engulfing the prior candle’s body, not
including the shadows. This pattern formation at times leads to bullish
continuation but is more of a bearish reversal pattern.
An important consideration is the location of where these engulfing patterns
are situated in the context of an overall price trend. In the illustration above,
it becomes evident that when these patterns are situated at the extremes of
a price trend, they tend to have a bearing on where price is likely to head
next.
2. Hammer Reversal Candlestick
As the name suggests, this candlestick resembles a hammer in shape. One
of the simplest candlestick patterns, the hammer is made up of one candle
with a long lower wick connected to a short body at the top of the candle.
Hammers signal a potential capitulation by sellers to form a bottom,
accompanied by a price rise to indicate a potential reversal in price
direction. This happens all during the one period, where the price falls after
the open but then regroups to close near the open.
The chart shows a price decline followed by a hammer pattern. This pattern
had a long lower shadow, several times longer than the real body. The
hammer signaled a possible price reversal to the upside.
3. Doji Candlestick Pattern
There are times when the Forex candlestick is neither bullish nor bearish.
Instead, it is a candlestick with short wicks and a negligible body. It takes
the shape of a “plus” sign. The candlestick formed is called the Doji.
The pattern signifies uncertainty, indecision, and is waiting for either the
bulls or bears to take control. Often the next direction is an upwards or
downwards sustained move in price as the stock breaks beyond the Doji
candle.
The positioning of the Doji is where its power lies. You could find a Doji
almost anywhere on the charts, and every single position says something
important about the currency pair. Wherever the Doji appears, know that
the market could make a reversal or trend continuation on the next few
candles.
4. Evening And Morning Star Candlestick
The Evening Star pattern is a three bar candlestick pattern that usually
occurs at market tops and Morning Star pattern is a three bar candlestick
pattern that occurs at market bottoms.
The Evening Star is a bearish and top trend reversal pattern that warns of a
potential reversal of an uptrend. It starts with a long bullish bar carrying an
uptrend to a new high. The market's gap is higher on the next bar, but it is
suddenly short of fresh buyers, resulting in a small candlestick. The third
candlestick confirms the turnaround of the price trend.
The morning star, on the other hand, happens at the bottom of a trend to
suggest a reversal to the uptrend.
The small middle candle is the key to understanding why the evening star
or morning star patterns suggest reversals. It shows that the market is
temporarily hesitant about its next direction, whether uptrend or downtrend.
5. Three Line Strike
The bullish three line strike reversal pattern carves out three black candles
within a downtrend. Each bar posts a lower low and closes near the
intrabar low. The fourth bar opens even lower but reverses in a wide-range
outside bar that closes above the high of the first candle in the series.
Conclusion
All in all, these five candlestick patterns, when identified correctly, can be
extremely useful for investors. Although many believe that the patterns are
starting to lose their accuracy in the modern forex market, several patterns
are still reliable in predicting the price movements. That is why
understanding candlestick patterns is still important for forex traders.
Let’s end this article with this: If the Forex charts told the stories of every
currency pair, candles would be the words, and candlestick patterns would
be sentences.
