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Trading without a candlestick pattern is like riding the car in the dark without lights. Candlestick patterns are helpful to find out the right entry, exit, and stop-loss at right time. Here we are going to discuss popular candlestick patterns that are used by traders to trade in the market.

Why is a candlestick pattern important?

Many traders trade simply using line charts only and some even don’t use the charts, they only watch bids and ask prices and trade accordingly.

There are countless methods to trade in the stock market, but if you are a gambler, you can trade based on some data or by watching the news, or with tips.

But, to stay for long-term in the market you need to understand candlestick patterns.

If you are a new trader, reading candlestick charts can be difficult for you but when you start learning about it you can find it easier. There is a proper way to read the charts and that is the pattern. The pattern shows the probabilities for price movements.

If you can get the right opportunity, you can make profits easily.

Candlestick patterns help to understand the patterns of the market. With sufficient practice in reading and understanding charts, you can easily become a chart reader. 

Who brings the concept of candlestick patterns?

Regarding Investopedia.com, a Japanese rice future trader named Muneshia Homa (18th Century) invented the candlestick charts. He traded on the Dojima rice exchange of Osaka, which is considered the first formal futures exchange in history.

He is known as the father of candlestick charts and he recognized the impact of the emotions of humans in the market. Thus, he develops a system of charting that helped him to understand the impact of emotion on rice’s future price.

He also wrote a book on trading psychology in 1775. After homa, Steve Nison became an expert on Japanese candlestick methods and he wrote a book: Beyond Candlesticks: New Japanese Charting Techniques Revealed, which became most popular. 

What does Candlestick exactly describe?

Trading psychology and emotions are two parameters of trading. Candlestick shows the battle of emotions between buyers and sellers.

So candlesticks are the best source to understand the emotions in the market, which helps to start trading effectively.

Formation of Candlestick

There are mainly two types of candlesticks: Bullish and Bearish. The third one is indecisive. The image below shows bullish and bearish candle and their elements.

Formation of Candlestick
Image By: Trading Fuel | Research Team

Now let’s understand candlestick in detail.

What are Candlesticks?

 The candle is formed when the price moves over some time. The 5-minute candle is a plot of the price movement (Up or down) during 5 minutes of the trading day. 

Similarly, the weekly candle shows the price movement for 1 week, and the daily candle represents the price movement during the whole day.  

There are two prices in candlesticks open and close. Open price shows where the price opens for the particular candle and close indicates where the price closes for the candle. The tails (wicks) indicates high and low price from opening and close.

As per Nison’s opinion, the Japanese placed more weight on opening and closing prices. 

Don’t Miss: Candlestick Patterns: Part 1

1. Bullish Candle

When the price closed above the opening price, a bullish candle formed. For any bullish candle, 1 min or daily or 5 min all bullish candles closing will always be higher than the opening price.

Bullish Candle
Image By: Trading Fuel | Research Team

2. Bearish Candle

A bearish Candle is exactly the opposite of a bullish candle. When the closing price is below the opening price, a bear candle forms.  For both candles, the highest and lowest points will be the same.

Bearish Candle

What does candle formation describe?

It is not enough to know about a candle is bullish or bearish, the study of candle formation helps traders to understand the price action and where the stock price can go next within the next few minutes.

The candle indicates the fight between buyers and sellers. Trades can get more advantages with the candle once he knows what the candle is telling.

The open and closing price of the Candle

The opening price of the candle is the price when trading starts. For example: for the 9:15 to 9:20 candle the opening price will be the price at which the market opens.

For the 9:20-9:25 candle, the opening price will be the different price as in the 5-minute chart after every 5 minutes new candles are made.

The closing price of the candle is very interesting. If the price is close above the opening price we say bulls are powerful and the opposite is if it closes below the opening price we can say sellers are in control.

Also, Learn: Top 10 Intraday Trading Techniques & Strategies

The open and closing price of the Candle
Image By: Trading Fuel | Research Team

In this example, the three bullish candles (Three white soldiers) in a row are there. Now, what can we interpret from this formation?

With every candle, we can say that bulls are in control and there are high chances of the price moving up.

High Price of the candle

The high price of every candle is the top of the tail or weak. The high price represents the maximum buyer’s efforts to move the stock price up. But due to sellers they can’t move the price up and close below its high point. The high price indicates the power of bulls. Sometimes the closing price is equal to the high price which confirms that there are buyers active in the market.

High Price of the candle
Image By: Trading Fuel | Research Team

Low price of the candle

The low price indicates the power of sellers in the market. The lowest price of the candle is the point up to which the strong sellers were present during that particular time period.

The lower price shows there are active sellers in the market when the price close just above the low point that confirms sellers are there and the price may go down.

 But when the price takes support from the previous day’s low and moves upwards indicates that buyers are still there and the price may go up.

Low price of the candle
Image By: Trading Fuel | Research Team

Body of the Candlestick 

 The body of the candlestick is the range between the opening and closing price. This part of the candle is very important to interpret. For day trading, price momentum is very important. 

 The body structure of the candle can tell us whether the price will go up or down and help us to decide whether to enter or exit the trade. 

Now let’s go to the example of candlestick patterns that are widely used by most traders for trading.

To interpret chart candles perfectly, you need to give time and practice for a long time. Different candlestick charting patterns can be helpful to anticipate the trend of the market.

Here are some patterns which can be useful for traders.

  • Hammer / Hanging Man 

The formation of both types of candlesticks is the same but the hammer occurs at the bottom and the hanging man occurs at the top.

Hanging Man
Image By: Trading Fuel | Research Team

The hammer is a popular pattern for reversal. The location of the hammer should be at the bottom or support area or after a strong short rally, if the hammer appears we can interpret that there is a chance of the price moving up from the point.

When a hammer candle occurs with high volume, it confirms that buyers come into action and we can go for a long.

The hanging man looks the same as the hammer candle but it appears at the top after a strong bullish rally in the price. When you see this candle at resistance or top of the up-trend we can predict that the price may go down.

When hanging man candle forms we can say that sellers are in the action and it can be confirmed if a high volume is there.

  • Engulfing pattern

 Engulf means one candle covers the second last candle with the entire body. The benefit of this pattern is it can give high-probability signals with minimum risk.

Bullish engulfing patterns appear at the bottom or support level. Identifying this pattern is very easy. The Bearish candle was engulfed by the bullish candle.

Engulfing pattern
Image By: Trading Fuel | Research Team

Know More: Bullish Engulfing Pattern Trading Strategy Guide

The bearish engulfing pattern appears at the top of the price or resistance level. When the big red candle engulfed the green candle there is a chance of the price going down.

bearish engulfing pattern
Image By: Trading Fuel | Research Team
  • The morning star

The morning star pattern indicates a reversal of a downtrend. At the end of the downtrend, you can find this pattern and go for the buy.

The morning star
Image By: Trading Fuel | Research Team

This pattern is made up of 3 candles as shown in the image.

  • To confirm this pattern the first candle should be a strong bearish candle,
  • The second candle should have a narrow body called a star candle.
  • The third candle must be a strong bullish candle which confirms the uptrend.
  • The evening star

The evening star pattern is exactly opposite to the morning star candle. The formation of this pattern at the top of the uptrend gives the signal for the reversal of the trend.

In this pattern, the first candle should be a strong bullish candle, the middle one is a star candle, and the third one is a strong bearish candle confirming the starting of the downtrend.

The evening star
Image By: Trading Fuel | Research Team

Must Know: Top 10 Candlestick Pattern

To confirm the shooting star pattern, the bodies of candles should not overlap and the volume should increase from candle to candle.

  • Indecision candles

The spinning top, Doji, and marubozu candles are mainly found in consolidation where there is no confirmation of the trend.

Indecision candles
Image By: Trading Fuel | Research Team
  • The Doji candle indicates a fight between buyers and sellers so we cannot predict the trend of the market. Doji creates confusion when it appears in the trending market.
  • So when indecision candles form it means that you need to stop thinking about taking the trade at that time.

How to practice with candlestick patterns?

Backtesting is one of the methods to practice different candlestick patterns, as it doesn’t involve real money. So you can easily get an idea about different patterns.

If you want to know more about how to do backtesting? You can visit our blog https://tradingfuel.com/benefits-of-backtesting/

Another method is watching the chart live and trying to read it online by yourself. When you find a candlestick pattern you note down points such as:

  • Name of the candlestick pattern
  • Where did you find it? What is the location of the pattern- uptrend/downtrend/ sideways?
  • What are entry, exit, and stop loss levels?
  • What is a risk-to-reward ratio?
  • Which pattern is more suitable for you?

Practicing the candlestick charting pattern can help you to select the best strategy for you. You can trade confidently once you get enough knowledge and practice.

Contain & Image ©️ Copyright By, Trading Fuel Research Lab

Author

Prashant Raut is a successful professional stock market trader. He is an expert in understanding and analyzing technical charts. With his 8 years of experience and expertise, he delivers webinars on stock market concepts. He also bags the ‘Golden Book of World Record’ for having the highest number of people attending his webinar on share trading.