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Candlestick Charts
A candlestick is composed of three parts; the upper shadow, lower shadow and body. The body is colored green or
red. Each candlestick represents a segmented period of time. The candlestick data summarizes the executed trades
during that specific period of time. For example a 5-minute candle represents 5 minutes of trades data. There are four
data points in every candlestick: the open, high, low and close. The open is the very first trade for the specific period
and the close is the very last trade for the period. The open and close is considered the body of the candle. The high is
the highest priced trade and low is the lowest price trade for that period.
The high is represents by a vertical line extending from the top of the body to the highest price called a shadow, tail or
wick. The low of the candle is the lower shadow or tail, represented by a vertical line extending down from the body. If
the close is higher than the open, then the body is colored green representing a net price gain. If the open is higher
than the close, then the body is colored red as it represents a net price decline.
Hammer Candlestick
Hammer Candlestick
The hammer is a bullish reversal candlestick. It is one of the most (if not the most) widely followed candlestick pattern.
It is used to determine capitulation bottoms followed by a price bounce that traders use to enter long positions.
A hammer candlestick forms at the end of a downtrend and indicates a near-term price bottom. The hammer candle
has a lower shadow that makes a new low in the downtrend sequence and then closes back up near or above the
open. The lower shadow (also called a tail) must be at least two or more times the size of the body. This represents
the longs that finally threw in the towel and stopped out as shorts start covering their positions and bargain hunters
come in off the fence. A volume increase also helps to solidify the hammer. To confirm the hammer candle, it is
important for the next candle to close above the low of the hammer candle and preferably above the body. A typical
buy signal would be an entry above the high of the candle after the hammer with a trail stop either beneath the body
low or the low of the hammer candle. It is prudent to time the entry with a momentum indicator like a MACD,
stochastic or RSI.
Shooting Star Candlestick
Doji Candlestick
Doji Candlestick
The doji is a reversal pattern that can be either bullish or bearish depending on the context of the preceding candles.
The candle has the same (or close to) open and closing price with long shadows. It looks like a cross, but it can also
have a very tiny body. A doji is a sign of indecision but also a proverbial line in the sand. Since the doji is typically a
reversal candle, the direction of the preceding candles can give an early indication of which way the reversal will go.
If the preceding candles are bullish before forming the doji, the next candle close under the body low triggers a
sell/short-sell signal on the break of the doji candlestick lows with trail stops above the doji highs.
If the preceding candles are bearish then the doji candlestick will likely form a bullish reversal. Long triggers form
above the body or candlestick high with a trail stop under the low of the doji.
Bullish Engulfing Candlestick
The preceding green candle keeps unassuming buyers optimism, as it should be trading near the top of an up trend.
The bearish engulfing candle will actually open up higher giving longs hope for another climb as it initially indicates
more bullish sentiment. However, the sellers come in very strong and extreme fashion driving down the price through
the opening level, which starts to stir some concerns with the longs. The selling intensifies as the price falls through
the low of the prior close, which then starts to trigger some more panic selling as the majority of buyers from the prior
day are now underwater on their shares. The selling intensifies into the candle close as almost every buyer from the
prior close is now holding losses. The magnitude of the reversal is dramatic. The bearish engulfing candle is reversal
candle when it forms on uptrends as it triggers more sellers the next day and so forth as the trend starts to reverse
into a breakdown. The short-sell trigger forms when the next candlestick exceeds the low of the bullish engulfing
candlestick. On existing downtrends, the bearish engulfing may form on a reversion bounce thereby resuming the
downtrends at an accelerated pace due to the new buyers that got trapped on the bounce. As with all candlestick
patterns, it is important to observe the volume especially on engulfing candles. The volume should be at least two or
more times larger than the average daily trading volume to have the most impact. Algorithm programs are notorious
for painting the tape at the end of the day with a mis-tick to close out with a fake engulfing candle to trap the bears.
A hanging man candlestick looks identical to a hammer candlestick but forms at the peak of an uptrend, rather than a
bottom of a downtrend. The hanging man has a small body, lower shadow that is larger than the body (preferably
twice the size or more) and a very small upper shadow. It is differs from a doji since it has a body that is formed at the
top of the range. For some reason, the buyers thwarted a potential shooting star and lifted the candle to close at the
upper range of the candle to maintain the bullish sentiment, often times artificially. However, the truth hits when the
next candle closes under the hanging man as selling accelerates.
Hanging man candles are most effective at the peak of parabolic like price spikes composed of four or more
consecutive green candles. Most bearish reversal candles will form on shooting stars and doji candlesticks. Hanging
man candles are uncommon as they are a sign of a large buyer that gets trapped trying to supportthe momentum or
an attempt the paint the tape to generate more liquidity to sell into.
A hanging man candlestick signals a potential peak of an uptrend as buyers who chased the price look down and
wonder why they chased the price so high. It brings to mind the old road runner cartoons where Wile E. Coyote would
be chasing the Road Runner and before he knew it, he realized he overstepped the cliff when he looks down, right
before he plunges.
Short-sell triggers signal when the low of the hanging man candlestick is breached with trail stops placed above the
high of the hanging man candle.