What are Japanese candlesticks?
Japanese candlesticks are one of the most popular and oldest technical analysis tools used in trading stocks, currencies, commodities, and other assets. They were developed in Japan in the 17th century by rice traders. Japanese candlesticks help traders understand price action by analyzing the patterns that prices draw on a chart, making it easier to make buy and sell decisions.
Japanese candle components
The Japanese candlestick consists of four main parts:
Open price: The price at which a financial instrument begins trading during a given period.
Close Price: The price at which a financial instrument closes at the end of a trading period.
High: The highest price reached by the asset during the trading period.
Low: The lowest price reached by the asset during the trading period.
Candle interpretation
Japanese candles are of two basic types:
Bullish Candle: If the closing price is higher than the opening price, the candle is bullish. The candle body is usually green or white.
Bearish Candle: If the closing price is lower than the opening price, the candle is bearish. The body of the candle is usually red or black.
Common Japanese Candlestick Patterns
1. Hammer candle
Description: A candle with a small body and a long lower shadow. Appears at the end of a downtrend.
Interpretation: It indicates a reversal of the trend from downward to upward.
2. Hanging Man Candle
Description: Similar to a hammer, but appears at the end of an uptrend.
Interpretation: It indicates a reversal of the trend from upward to downward.
3. Bullish Engulfing Pattern
Description: It consists of two candles; the first is a small bearish candle, and the second is a bullish candle that engulfs the body of the first candle.
Interpretation: A strong signal of a trend reversal towards the upside.
4. Bearish Engulfing Pattern
Description: A large bearish candle engulfing a small bullish candle.
Interpretation: It indicates a reversal of the trend towards downward.
Practical examples
Example 1: Hammer Candle
Suppose a particular stock has been trending down for several days, and suddenly a hammer candle appears on the chart. This could be a signal that the downtrend is over and a new uptrend is beginning.
Example 2: Bullish Engulfing Pattern
If a bullish engulfing pattern appears on a forex chart, it indicates that buyers have taken control of the market after a period of selling, causing prices to rise.
The importance of Japanese candles in trading
Japanese candlesticks provide traders with important information about the market such as:
Momentum: The size of the candle body and the length of the shadows can be used to determine the strength of the momentum in the uptrend or downtrend.
Volatility: Reflects the extent of price change during a trading period.
Identifying Reversal Points: Common patterns help identify potential reversal points in a trend.
Illustrative example with pictures.
