FOREX CANDLE ANALYSIS
Candlestick market analysis can be called the main type of graphical analysis, in which the object of study is the Japanese candlestick - the structural unit of the candlestick chart. Candles themselves were invented a very long time ago, so candlestick market analysis has a very long history. The main idea is to understand only by the appearance and parameters of a candle, or a combination of several candles, what can be expected in the future and what prospects for trading open up. The main parameters that interest us in forex trading are as follows:
The general shape of the candle
The relationship between the body and the shadows
The ratio between adjacent candles
These are three key points that we will evaluate in the candlestick market analysis. There are certain criteria that have appeared over the years of observation, and later they were described in particular in Neeson’s book “Japanese Candles”. For example, one candlestick may indicate that the market is most likely reversing, while the other indicates that the trend will continue. Of course, this is not an absolute option, but the statistics on the development of candlestick models are quite convincing. The only thing that can distort it to some extent is the use of candlestick analysis of the forex market. This is due to the fact that initially the observations were conducted on the securities market, and only then on a relatively young forex. Very high volumes and the use of an order of magnitude of large financial leverage leads to the fact that sometimes there is a deviation from the reference form, but the model itself does not lose performance at all.
The only conditional drawback is the fact that the candlestick analysis of the Forex market is applicable on fairly large time frames, that is, less than H4 should not even be considered. And the ideal option that will bring the most benefit is an analysis of the daily and weekly charts. Consider a simple example. The Asian session is calm, no serious publications are planned for the European period. But during the American session, an event occurs and prices begin to fall. Since any such events lead to the fact that subsequent trading sessions support the emerging trend, it turns out that a fall in America will give a certain form of a candle for a trading day and in the future it can serve as a signal to enter. Further in Asia there will again be a fall, which will continue in Europe. As a result, we get that the candle signal fulfills. At the same time, we are not at all interested in what happened inside the day; only the final form of the daily candle is important to us. Due to the fact that many people prefer short-term trading, the candlestick forex analysis is not so popular, but for those who decide to trade in the medium term, candlestick market analysis can be a very good assistant.
Example of trend reversals for candlestick patterns
All models from the candlestick market analysis are divided into two main categories:
U-turn models. As you might guess, this is a special form that indicates a possible change in market direction.
Continuation of the trend. Everything is also simple here - these models, as a rule, describe consolidations, that is, periods of horizontal or slightly inclined movement against the trend.
Undoubtedly, those who observed the chart, but are not familiar with the candlestick analysis of the market, will see very familiar combinations in the list of models. They are quite common, given the variety, almost every day you can find the resulting patterns on the daily charts. And the more tools you track, the more signals there will be. In addition, weekly candles are added here, which, of course, are fewer, but the signals are very reliable. So, consider the main candlestick forex patterns:
Each candlestick model has its own name. Moreover, often the bullish model has a completely different name than the bearish one. For example, “Shooting Star” is a candle that forms at the end of a bull trend, and its opposite is called “Hammer”. They look absolutely identical, only directed in different directions. Accordingly, reversal patterns are divided into pairs with a few exceptions - “Absorption” can be bullish or bearish. The reversal model itself in the candlestick market analysis usually consists of one, two or three candles. There are more complex combinations, but they do not always work out exactly for Forex, moreover, it is easy to get confused in a large number of candles in unaccustomed habits. In this regard, it is better to start getting acquainted with the candlestick analysis of Forex with the following patterns:
1. The shooting star. This is a model consisting of one single candlestick that appears at the end of an uptrend, that is, it implies that growth ends on it. Surely many saw her, it is often formed on the daily charts. It is a candle with a long upper shadow and a not very large body. The ratios are approximately the following: the size of the shadow exceeds the size of the body by about two to three times. This is a fairly large range, so many candles fall into the category of “Shooting Stars”. If the shadow is smaller, then this is a weak signal and does not fall under the description of the pattern. If it is much longer, then it will be a completely different model - a pin bar, which we will talk about in the Price Action section. It is also worth noting that the color of the body of the candle plays a rather important role - if it closes below the opening point, then this is a good and strong signal, if closing closes with an increase, then there is a less chance of a reversal. In any case, it is recommended to trade only after its minimum has been broken. The advantage of a shooting star in forex candle analysis is that it is just one candle and you can enter the market literally at the next one. As already mentioned, in a bearish trend, this candle will be symmetrical and is called the “Hammer”.
2. The evening star. Another “star model” after a bull trend, but only this time already consisting of three candles. Not very common, but there is an interesting property - it often appears on a four-hour chart and performs quite well. But if you follow the canons of candlestick analysis of the market, then it’s better to focus on the daily time frame. It is a long candle with a short upper shadow, followed by a very small candle with also short shadows. After this, a key moment comes - if the market starts to decline and a third candlestick with a sufficiently large body comparable to the first candlestick is obtained, this confirms the reversal. As with the shooting star, it is very easy to identify, trading on the fourth candle. Some enter the market in the process of forming the third, but it is better to do it when some experience in candlestick analysis of the forex market already appears. The bearish option is called “Morning Star” - just flipped. It can also be noted that often such a combination is part of a more complex, formed, for example, on a weekly time frame.
3. Absorption. One of the few models in the candlestick market analysis, which is also used on the four-hour chart. It consists of only two candles, which form a reversal combination. Consider the bull trend as an example. The first candle is growing, it is the last in this trend. The second candlestick closes with a decline, with the candle's closing point being lower than the opening point of the first. Hence the name - the second candle, as it were, absorbs the whole body of the first. At the same time, the shadows of the first candle should be short, while the second is not so important. The best option is if the second candle covers not only the body, but also the entire range, that is, the lower shadow of the first candle is also included here. In this case, the signal is very strong. With a bearish trend, everything is the same, only in the opposite direction. Sometimes there are situations when 4 such candles go in a row, that is, the absorption of each previous one turns out. Usually the original meaning is not violated, that is, a similar structure still implies a reversal. Absorption usually ends with sharp accelerations in the last waves of the trend, so it is important to enter the trade on time, that is, not to miss the opening of the next candle.
4. The hanged man. A fairly reliable reversal pattern for a growing trend. The increase in the market ends with growth in the form of a candle, in the form completely identical to the “Hammer” considered earlier. That is, in fact, the Hanged Man in forex candle analysis is a hammer only appearing on a growing trend. The idea is that the market could not continue the movement and did not draw a new extremum. In this regard, it turns out a similar candle of the daily or weekly time frame, which signals a very likely reversal. Trading rules are the same as for other models from one candle. In the case of the market moving down, a similar pattern is called “Inverted Hammer” - this is a shooting star, only at the end of the bear market. At first it’s easy to get confused, but over time, all these names are well laid off in the head, literally after the first deal on them.
There are not many models of candlestick market analysis suggesting a continuation of the trend. For beginners, it is reasonable to pay attention to one of the main ones used in the candlestick analysis of forex - “Three white soldiers” and the opposite of it to the bearish “Three black crows”. They are well remembered and do not contain the complex structure that others have. The main idea is that the market is gaining momentum by drawing three candles of the same direction in a row. In the first case, these are three growing (white) candles, in the second - three falling. Such a combination demonstrates the market’s mood for the trend, they can be formed both in the initial stage of formation and in the middle of the trend.
In these models, attention should be paid to how the candles look. It is important that there are no long shadows directed against the trend, otherwise it can be just a gradual advance in the zone of resistance or support, which will end with a reversal. It is also desirable that the bodies of the candles do not decrease, that is, they are either approximately the same or increase slightly with the development of the model. The best option is a smooth increase in the ranges of candlestick bodies with short shadows. As a rule, such a combination can be seen in strong and stable trends.
The remaining models are complex, because they were originally developed for the stock market, where there are gaps between the candles. Gap - the gap between the closing price of one candle and the opening price of another. This happens due to the fact that, unlike forex, the stock market is not traded around the clock, or rather, each trading instrument has a limited trading time.