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A Beginner’s Guide to Trading Candlestick Patterns

by MarketMillion
A Beginner's Guide to Trading Candlestick Patterns

Candlestick patterns are one of the most popular techniques used in trading candlestick patterns. They have been around for centuries, dating back to 18th century Japanese rice traders. Candlesticks display the high, low, open and close for a specific period – typically daily, weekly or monthly. The thick colored ‘candle body’ represents the range between the open and close prices, while the thin ‘wicks’ represent the highs and lows for that period.

Candlestick patterns form when candlesticks group together to create different formations that traders can use to identify potential trading opportunities. There are lots of different candlestick patterns that indicate possible market moves. Here are some of the most common and reliable candlestick patterns for beginner traders to get started with.

Doji Candlestick Patterns

A doji candlestick forms when the open and close prices are virtually equal, creating a cross or plus sign shape. A doji candlestick on its own signals market indecision, but can also form powerful patterns like the doji star and gravestone doji.

Doji Star

The doji star is a reversal pattern that signals a potential market turnaround. It is made up of a long-bodied candlestick followed by a doji that gaps above or below the previous candle, indicating the trend may be about to reverse after a period of momentum.

Gravestone Doji

The gravestone doji is also a reversal pattern, formed when the open, low and close prices are all near the high of the period, creating a vertical upper wick. This shows buyers drove prices up before sellers stepped in and pushed prices back down to the open level, signaling a potential reversal of an uptrend.

Hammer and Hanging Man

The hammer and hanging man look similar but have different implications. Both have small real bodies and long lower wicks that are at least double the length of the real body.

Hammer

A hammer indicates a potential bottom reversal after a decline. The long lower wick shows buyers stepped in to support the price during the period.

Hanging Man

A hanging man forms in an uptrend and signals potential exhaustion of buying pressure. The long lower wick reflects sellers driving the price down during the period, possibly foreshadowing a trend reversal.

Engulfing Candlestick Patterns

Engulfing patterns form when the real body of one candlestick ‘engulfs’ the real body of the previous candlestick, indicating potential reversal.

Bullish Engulfing

A bullish engulfing pattern forms in a downtrend when a large green real body engulfs a small red real body from the previous candlestick. This shows buyers have overpowered sellers and may signal changing momentum.

Bearish Engulfing

A bearish engulfing pattern forms in an uptrend when a large red real body engulfs a small green real body from the previous candle. This reflects strong selling pressure which could foreshadow a trend reversal.

Morning and Evening Star

The morning and evening star patterns incorporate the doji to signal potential trend reversals after a period of momentum.

Morning Star

A morning star is a bullish reversal pattern in a downtrend. It consists of three candles:

  1. A long red candle extending the downtrend
  2. A doji that gaps below the first candle, showing market indecision
  3. A green candle that closes above the midpoint of the first candle to confirm buyers have stepped in

Evening Star

An evening star is a bearish reversal pattern in an uptrend. It also has three candles:

  1. A long green candle continuing the uptrend
  2. A doji that gaps above the first candle reflecting market indecision
  3. A red candle that closes below the midpoint of the first candle as sellers take over

Three White Soldiers and Three Black Crows

These three candlestick patterns indicate strong reversal signals during periods of market volatility.

Three White Soldiers

Three white soldiers form after a downtrend and each long white (green) candle opens within the previous candle’s real body to show persistent buying pressure. This indicates a potential bottom reversal.

Three Black Crows

Three black crows form after an uptrend. Each long black (red) candle opens within the previous candle’s body, reflecting persistent selling pressure and signaling a possible top reversal.

Tweezer Tops and Bottoms

Tweezer patterns have two candlesticks with matching highs or lows that ‘squeeze’ the price in a narrow range.

Tweezer Bottom

A tweezer bottom forms when two candlesticks have matching bottoms. The second candle closes above the first candle’s open, indicating buyers have reversed the brief dip lower. This signals a potential uptrend.

Tweezer Top

A tweezer top forms when two candlesticks have matching tops. The second candle closes below the first candle’s open, indicating sellers have reversed the brief rise higher. This signals a potential downtrend.

Final Thoughts

Candlestick patterns capture market psychology and dynamics that can’t be seen from simple price charts. Mastering trading candlestick patterns requires considerable practice looking at lots of examples in real market conditions. But the patterns above are a great starting point for beginners to understand key signals indicating potential trend continuations and reversals.

Candlestick patterns should always be used with other forms of technical analysis to look for confirmation and increase the robustness of trading signals. Common confirming indicators include volume, chart patterns, trends and momentum oscillators like RSI and MACD.

Patience is also crucial. Don’t expect a candlestick pattern to play out immediately. Give the market time to confirm the signal, whether it’s continuing the suggested new trend or returning to the prior trend. Profitable candlestick trading requires discipline to wait for the market to catch up with the signal over subsequent periods.

Mastering candlestick patterns takes time, but being able to identify these formations will significantly improve your chart reading skills and ability to spot high-probability trading opportunities. The patterns above are the perfect starting point for beginners looking to add candlesticks to their technical trading toolkit.

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