Candlestick pattern

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Candlesticks are the most common type of chart representation used by traders. They display a lot of information such as the opening and closing price as well as the high/low for a given period. Candlesticks are a very valuable decision making tool and are one of the pillars of technical analysis. Their recognizable patterns can provide with a lot of information on the psychology of the market.

What is a candlestick pattern?

Over the years, traders found out that candlestick charts showed similar repetitions of consecutive candles. These repetitions are called candlestick patterns by technical analysts. The theory behind them is that they are usually followed by a predictable price movement. As such, the identification of a candlestick pattern can inform the trader on the best decision to make at a given time.

Japanese candlesticks are divided into two main categories: continuation candlesticks patterns and reversal candlesticks patterns. Continuation patterns announce a continuation of the current trend while reversal patterns announce a reversal of the trend.

Just like the rest of technical analysis, candlestick patterns are not an exact science. They should be seen as a complement to other technical analysis indicators. Alongside them, they can allow to optimize entry/exit points, avoid numerous false signals, and thus maximize trading performance.

How to trade candlestick patterns?

In this section, we let you know how to make the best decisions using candlestick patterns. We’ll also provide you with several examples to illustrate our words.

Learn how to quickly recognize candlestick patterns

This is especially importance for day traders who aim at small profits on short timeframes. It is vitally important that you learn them all by heart or that you keep our incoming candlestick patterns cheat sheet handy to be able to instantly recognize them. Otherwise, if your decisions are not fast enough you might loose a decisive edge on the market.

Always analyze the current trend of the market

A candlestick pattern means nothing if it is not related to the current trend. The trend may be up, down or the market may be in a consolidation phase. All candlestick patterns are more relevant in some market conditions than in others.

Picture of an hammer candlestick pattern hitting the resistance line on SOL/USDT market.

On this picture – SOL/USDT Binance market, 4h candlesticks -, an uptrend is clearly formed as shown by the multiple bounces of the price on the support line. After a short correction, we have identified a hammer candlestick pattern bouncing on the support line. The price drops again shortly after the hammer, which could invalidate the pattern. However, it only bounces again on the support line after the hammer, before the uptrend continues. The uptrend identified thanks to the support line helped reading the candlestick pattern correctly.

Never use candlesticks patterns alone

Overall, candlestick patterns have a much lower success rate than price patterns, simply because price patterns cover more candles and thus are macroscopic figures. Consequently, basing your buy/sell signals solely on candlesticks will generate too many false signals. Candlestick patterns should only be used in conjunction with technical analysis indicators or price patterns. Also, it can be useful to combine candlestick patterns with volume analysis.

Example of an evening doji star candlestick pattern announcing a downtrend in conjunction with an RSI overbought signal.

On this chart drawn from Binance’s BTC/BUSD market (1h candles), we can clearly see that an evening doji star candlestick pattern is forming. This is a trend reversal pattern that follows an uptrend and thus indicates a downtrend. In parallel, the 6-period RSI seems to suggests that the market is way overbought. A downtrend should follow. It is time to go short.

Always wait for confirmation

A candlestick pattern is only valid once it is fully formed. Thus, wait to see a full pattern forming before making any decision based on the prediction on the continuation or reversal of the trend. Never anticipate the formation of a pattern or you will get many false trading signals.

False forming of an upside tasuki gap on the SOL/USDT market.

The chart above is drawn from Binance’s SOL/USDT market on 5m candles. The gap formed by the close of the first green candle and the open of the second green candle could make us expect the formation of an upside tasuki gap candlestick pattern. An upside tasuki gap is a continuation pattern. It occurs after an uptrend and is supposed to be followed by a continuation of the initial trend. However, the second green candle was a bit too big, and the third candle closed way below the gap. The upside tasuki gap wasn’t confirmed. Taking the decision to buy too early would have been wrong: the trend did reverse afterwards.