In Forex trading, candlesticks refer to bars on charts or graphs that show important data on an asset’s price movements. They are one of the most important technical indicators in the industry as Forex traders can gain valuable insights by viewing only a few candlestick bars on a chart. They help traders make informed decisions and interpretations. In this article, we will look at the different candlestick patterns and explain what they mean.
Candlestick patterns help traders make informed decisions. / Image by Anne Nygård via Unsplash
What Are the Main Components of a Candlestick?
A candlestick bar has the following main components:
- The body
Represents the open and closing prices of an asset
- The wicks or shadows
Represent the high and low movements of the market over the candlestick’s time period
- The colour
Indicates the direction of the market’s movement – green represents price increase and red represents price decrease
What is a Candlestick Pattern?
Over time, candlesticks form patterns indicating various things in the market, such as potential trend continuations and reversals. Candlestick patterns serve as a type of technical analysis tool for Forex traders and involve looking at historical price movement to predict future price movement more accurately.
Eight Types of Candlestick Patterns and What They Mean
The Hammer
Hammer candlestick patterns consist of a short body with a long wick extending down and they are found at the bottom of a downtrend.
A hammer pattern is a potential bullish reversal signal that indicates that although they were selling pressures, ultimately strong buying pressure drove the price back up.
The Inverted Hammer
In the inverted hammer pattern, the only difference from the hammer pattern is that the upper wick is long while the lower wick is short. It’s essentially a hammer flipped upside down, appearing at the top of an uptrend.
It also indicates the buying pressure followed by a selling pressure that was not strong enough to drive the market price down. The inverted hammer suggests that buyers will soon have control of the market, indicating a possible trend reversal towards bullish dominance.
The Piercing Line
The piercing line is a two-stick pattern made up of a long red candle followed by a long green candle. There is usually a significant gap down between the first candlestick’s closing price and the green candle’s opening price.
It indicates strong buying pressure as the price is pushed up to or above the mid-price of the previous day, signalling a potential trend reversal upwards.
The Morning Star
The morning star is a three-candle pattern consisting of one short-bodied candle between a long red and a long green candle.
It appears at the end of a downtrend, suggesting a potential bullish reversal.
The Hanging Man
The bearish counterpart to the hammer, the hanging man pattern forms at the end of an uptrend.
It indicates that there was a significant sell-off, but buyers were able to push the price up again, suggesting the uptrend might be losing momentum.
The Shooting Star
Essentially, this pattern is an inverted hammer appearing at the top of an uptrend. It has a small lower body and a long upper wick.
The long upper wick signifies failed bullish attempts and potential weakness in the uptrend.
The Evening Star
This pattern is a three-candle pattern and is the counterpart to the bullish morning star. It is formed from a short candle sandwiched between a long green candle and a large red candle.
It suggests a potential trend reversal towards a downtrend, i.e. a reversal of an uptrend, and it is particularly strong when the third candle erases the gains of the first candle.
Dark Cloud Cover
This candlestick pattern indicates a bearish reversal – basically a black cloud over the previous day’s optimism. It comprises two candlesticks – a red candle that opens above the previous green body and closes below its midpoint.
It signals that the price was pushed lower. If the wicks are short, it suggests that the downtrend was extremely decisive.
In Conclusion
While candlestick patterns can be very useful for quick predictions of trends, it is important to use candlestick patterns in conjunction with other technical indicators to confirm the trend and make informed trading decisions. Candlestick patterns only suggest possibilities, not certainties; there are no guarantees. The Forex trading environment is unpredictable and price movements are influenced by various factors. Vigilance and good risk management are always essential.
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