Mastering and Understanding Candlesticks Patterns

Candlestick charts are further developed line charts – which the image below
shows – that serve to compensate for the disadvantage of less information.
Candlestick charts have their origin in 17thcentury Japan. Today, candlestick
charts are the preferred tool of analysis for traders and most investors since they
provide all the required information at a glance. In this article, you will learn
everything you need to master candlesticks patterns like a true professional.

The candlesticks

As the name suggests, a candlestick chart is made up of so-called

(price) candlesticks. These candlesticks are made up of different components to
describe the price movements of financial instruments.

Two sample candlesticks are shown below. A candlestick consists of a solid part,
the body, and two thinner lines which are called candle wicks or candlestick
shadows.
The candlesticks are color-coded to illustrate the direction of the price
movements. A white candlestick represents rising prices, whereas a black
candlestick shows that the price fell during the period.

Figure: A rising candlestick is shown on the left and a falling candlestick is shown
on the right along with the explanations of terms used for individual candlestick
components.

The length of the shadows shows how much the price has moved up and down
with respect to a candlestick within a specific duration. If we set our charts so that
one candlestick corresponds to one day, then we can read the daily fluctuations
in the financial market using the shadows of a candlestick.

The candlestick body describes the difference between the opening and closing

prices for the corresponding time period.

The body of the white, rising candlestick below shows that the price opened at
$10 and closed at $20 in the selected time interval, but has fluctuated between
$25 and $5 in the meantime, as indicated by the shadows.
 

Figure: The trend of candlesticks from the opening price to the closing price is
described by the candlestick body. The shadows show the entire fluctuation
width.

If we line up several candlesticks, we can reproduce the progression of line

charts by following the candlestick bodies as shown below. The candle shadows
also show the severity of price fluctuations in each case. We, thus, get all the
information that is essential for an effective price analysis at a glance. This is why
candlestick charts are mostly used for technical analysis these days.
Figure: If you follow the path of the candlestick prices, you can reconstruct the
line charts. Candlesticks offer more information and are the preferred medium for
technical analysts.

Anyone who knows how to analyse and interpret the so-called candlestick
patterns or candle formations, already understands the actions of the financial
market players a little better.
Candlesticks can be divided into four elements, where each element reveals a
different aspect of the current trading behavior and the prevailing market
sentiment.

Intro: The strength ratio – bulls vs. bears

To understand the price and candlestick analysis, it helps if you imagine the price
movements in financial markets as a battle between the buyers and the sellers.
Buyers speculate that prices will increase and drive the price up through their
trades and/or their buying interest. Sellers bet on falling prices and push the price
down with their selling interest.

If one side is stronger than the other, the financial markets will see the following
trends emerging:

 If there are more buyers than sellers, or more buying interest than selling
interest, the buyers do not have anyone they can buy from. The prices
 then increase until the price becomes so high that the sellers once again
find it attractive to get involved. At the same time, the price is eventually
too high for the buyers to keep buying.
 However, if there are more sellers than buyers, prices will fall until a
balance is restored and more buyers enter the market.
 The greater the imbalance between these two market players, the faster
the movement of the market in one direction. However, if there is only a
slight overhang, prices tend to change more slowly.
 When the buying and selling interests are in equilibrium, there is no reason
for the price to change. Both parties are satisfied with the current price and
there is a market balance.

It is always important to keep this in mind because any price analysis aims at
comparing the strength ratio of the two sides to evaluate which market players
are stronger and in which direction the price is, therefore, more likely to move.

Element 1: Size of the candlestick body

The size of the candlestick body shows the difference between the opening and
closing price and it tells us a lot about the strength of buyers or sellers.

Below, the most important characteristics of the analysis of the candlestick body
are listed.

 A long candlestick body, that leads to quickly rising prices, indicates more

buying interest and a strong price move.
 If the size of the candlestick bodies increases over a period, then the price
trend accelerates and a trend is intensified.
 When the size of the bodies shrinks, this can mean that a prevailing trend
comes to an end, owing to an increasingly balanced strength ratio between
the buyers and the sellers.
 Candlestick bodies that remain constant confirm a stable trend.
 If the market suddenly shifts from long rising candlesticks to long falling
candlesticks, it indicates a sudden change in trend and highlights strong
market forces.
Figure:Left: Long candlestick bodies during the downward and upward trend
phases. Sideways phases are usually characterized by smaller bodies. Right:
Rising candlesticks are stronger in the upward trend. At the peak, the ratio tilts
and a sideways phase is characterized by smaller candlesticks.

Element 2: Length of candlestick shadows

The length of shadows helps in determining the volatility, i.e. the entire range of
price fluctuations.

Characteristics of candlestick-shadow analysis:

 Long shadows can be a sign of uncertainty because it means that the

buyers and sellers are strongly competing, but neither side has been able
to gain the upper hand so far.
 Short shadows indicate a stable market with little instability.
 We can often see that the length of the candlestick
shadows increases after long trend phases. Increasing fluctuation
indicates that the battle between buyers and sellers is intensifying and the
strength ratio is no longer as one-sided as it was during the trend.
  Healthy trends, which move quickly in one direction, usually show
candlesticks with only small shadows since one side of the market players
dominate the proceedings.

Element 3: Body to shadow ratio

For a better understanding of price movements and market behaviour, the first
two elements must be correlated in the third element.

Important factors in this context are:

 During a strong trend, the candlestick bodies are often significantly longer
than the shadows. The stronger the trend, the faster the price pushes in
the trend direction. During a strong upward trend, the candlesticks usually
close near the high of the candlestick body and, thus, do not leave a
candlestick shadow or have only a small shadow.
 When the trend slows down, the ratio changes and the shadows become
longer in comparison to the candlestick bodies.
 Sideways phases and turning points are usually characterised by
candlesticks that have a long shadow and only short bodies. This means
that there is a relative balance between the buyers and the sellers and
there is uncertainty about the direction of the next price movement.
Figure: There are almost no shadows during the left rising phase, confirming the
strong trend. Suddenly long candlestick shadows are visible in the sideways
phase; these indicate uncertainty and an intensified battle between the buyers
and the sellers. When candlestick shadows increase, it can foreshadow the end
of a trend.

Element 4: Position of the body

As far as the position of the candlestick body is concerned, we can distinguish

between two scenarios in most cases:

 If you see only one dominant shadow which sticks out on one side and the
candlestick body is on the opposite side, then this scenario is referred to
 as rejection, a hammer or a pinbar. The third and the seventh example in
figure 10 show such candlesticks. The shadow indicates that although the
price has tried to move in a certain direction, the opposition of market
players has strongly pushed the price in the other direction. This is an
important behaviour pattern which we will analyse in detail later.
 Another typical scenario shows a candlestick with two equally long
shadows on both sides and a relatively small body. The fifth candlestick in
figure 10 shows such an indecision On one hand, this pattern can indicate
uncertainty, but it can also highlight a balance between the market players.
The buyers have tried to move the price up, while the sellers have pushed
the price down. However, the price has ultimately returned to the starting
point.

Figure: From left to right: The size of the candlestick body describes the strength
of the price movement. The longer the body, the stronger the impulse. If the
candlestick shadows are longer, there is a balance between the sellers and the
buyers and the indecision increases.
Chart examples
Now that we have covered the individual elements, we can put things together
and see how we can use our knowledge to dissect price charts.

Example #1

Let’s follow price in the chart below and I share what we are seeing here in the
candlesticks:

 During the downtrend, the candlesticks are only red (bearish) and long with
very small or no wicks >> this shows strength
 At the bottom, we see a rejection. This is not enough yet to call a reversal
but on the next candle we then start seeing bullish candles
Example #2

Below we see a typical range behavior and we can see how the candles tell us
what is going on:

 Price trends lower on the left with strong bearish candles and no bullish
candles in between
 Then suddenly the bodies become smaller and the wicks longer, showing
that the momentum is fading
 Price trades back into a previous support and it now becomes
resistance and we see a small rejection candle
 At the support of the range, we see that candles are becoming smaller and
have more wicks, confirming the indecision. It also makes a break of the
support unlikely
 Just before the support breaks, price is only starting to make bearish
candles and we can see how momentum is picking up
Example #3

In the final example, we can see a classic pattern at the end of a trend. This is
also often one of the building blocks to the trading strategy which you can
learn in our pro area.

 During the uptrend, the candles are very long and have very small wicks
only
 Then suddenly we see two long wicks to the downside. This shows that
price tried to push lower but it did not yet have enough selling pressure
 But the candles are becoming smaller and smaller after the failed sell-off
attempt which indicates that the trend is running out of steam
 Then suddenly we see a strong bearish candle which confirms the new
downtrend
Conclusion: No Need For Candlestick Patterns
With this article we want to show you that you do not have to remember any
candlestick formation to understand price. Quite the opposite. It’s very important
on your path to becoming a professional and profitable trader that you start
thinking outside the box and avoid the common beginner mistakes. Learn how to
understand how buyers and sellers push price, who is in control and who is
losing control.
https://www.tradeciety.com/understand-candlesticks-patterns/

Please watch video for better understanding