Trading With Charts: Candlesticks
Charts are visualizations of data events in the market. Here, we’ll review what the Candlestick Chart is and how to utilize them in decision making for trades.
by Achille Minerva
Head of Business Development at bitsian
My aim is to make you more profitable. The first article in this series highlighted six easy steps to avoiding common mistakes trading crypto. If you want a refresher, start there and then go into this more technical approach at trading with charts.
Candlesticks, as we know them, come from Japan and they have a long history (almost 300 years). In its infancy candlesticks were born to help rice trades and traders, rice was the main commodity at the time and an important source for many everyday products. The powerful and groundbreaking idea behind japanese candlestick is the ability to visually record 4 different prices at once instead of one (as was the common rule until then): opening, high, low and closing (OHLC).
When I look at the charts I find myself immersed in another world with its own rules, language and thus, interpretations. In my opinion, the Japanese candlestick is the common language used and widely accepted among traders worldwide--much like English acts as the common language in today’s world. While the candlesticks make it easier to understand information, it is up to us to interpret this ‘language’ correctly and make decisions that are beneficial to our trades based on the data we get.
Munehisa Homma is the inventor of the candlestick as we know it today in finance. He became a very wealthy man because of his ability to quickly glance at the behavior of a specific asset through candlesticks. By looking at the pattern, he was able to understand the psychology of the market and take a winning position against either a bear or a bullish market.
Let’s look more in detail at the anatomy of a candlestick,
Above shown is an individual candlestick. First important distinction is to divide the candlestick in 2 element body and wicks (upper and lower). Together with the wicks and the body we can easily identify 4 elements::
Opening price (body)
Closing price (body)
Highest price reached in a specific time interval (upper shadow, wick)
Lowest point reached in a specific time interval (lower shadow , tail )
Now that we know the fundamental structure of a candlestick (remember the bar can express any time frame of your choice from 1 second to 1 year), we can move forward and try to analyse the meaning and importance of each element in defining the price action.This is particularly useful for trading crypto where we have frequent swings in price direction.
A wide body indicates strong market sentiment, bullish or bearish, depending on whether the closing price finished above (bullish) the opening price or below it (bearish), the opposite is true for a narrow body this usually indicates a weak market sentiment. If the body is so powerful, what do we need the shadows for? Is it pure aesthetics? Those were my questions when I was approaching this subject many years ago-- The answer is this is more than a simple japanese ornamental art. It is a super powerful indicator that shows a change in sentiment during a session, the higher the wick or tail, the stronger the possibility of a change, in that direction.
With these concepts in mind, we can now understand a little bit better certain types of candlesticks. It is impossible to describe all of them so I will highlight my personal top 3. All of them belong to the doji family ( where open and close price are at the same level) :
Cross candle (long legged doji)
This candlestick has a shape of a cross because:
Of the tiny body, i.e., opening and closing are the same or extremely close
The body residing at the middle of the candle. There are many different theories on how to identify a cross candlestick but the majority of traders look for a body that sits at 50/40% level of the shadows (wick & tail)
The long shadow represents indecision among traders, with euphoria (wick) but also fear (tail) throughout the duration of the candle. This candle usually determines the beginning of a trend so is important to focus on the formation of the subsequent candles to understand what type of behaviour will be formed in the market.
As the word suggests the Hammer candlestick is represented by a short body at the top of the candlestick with no wick and a long tail, usually twice the length of the body ( shaped as an hammer). For the purist trader the tail should be no more than 2-3 times the size of the body. Generally speaking the longer the tail is the more bullish the candle is. This candle is important for traders because it usually signals the end of a pattern and indicates a reversal in trend. Ideally we will observe a downtrend followed by the formation of the hammer candle and subsequently an inverse or uptrend. Here is a typical scenario: After the opening bears are in control and push the price down (long tail), then support get founds and the bulls push the price back up with a closing above the opening (forming an hammer), then the market trends up. As described above, the hammer candlestick acts like an important indicator to mark reversal of trends (from bearing to bullish).
Shooting Stars Candle
The shooting star candle is basically an upside down hammer, this means that all the elements identifying the hammer are also valid for the shooting star(length of the shadow in relation to the body), except there is now a wick and no tail. Bear in mind, this is a bearish reversal candlestick, a real shooting star can only be valid if is located at the end of an uptrend.
Being the opposite of a hammer candlestick, the scenario observed here is the bulls are in control after the opening, pushing the price high then once it reaches resistance bears take control of the price action and push the price down to a lower closing (shooting star indicator), followed by a bearish trend.
Trading is not an exact science and charts not deterministic, rather it’s an art of interpreting multiple factors that validate and support a certain signal. I would be lying to you if I said that every time a hammer or a cross forms on the chart a certain pattern will reveal. Always look at the candlesticks as a sign or warning for a certain trend, then back up your thesis by looking at different timeframes and at other important indicators. Think of yourself as an investigator looking to find more than one evidence to corroborate your idea.
In my next series of articles I will analyze some powerful indicators that together with doji candles can make you a very happy dective of market trends.
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