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The Top 10 Best Candlestick Patterns

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The Top 10 Best Candlestick Patterns The Top 10 Best Candlestick Patterns There are many candlestick patterns but only a few are actually worth knowing. Here are 10 candlestick patterns worth looking for. Remember that these patterns are only useful when you understand what is happening in each pattern. They must be combined with other forms of technical analysis to really be useful. For example, when you see one of these patterns on the daily chart, move down to the hourly chart. Does the hourly chart agree with your expectations on the daily chart? If so, then the odds of a reversal increase. The following patterns are divided into two parts: Bullish patterns and bearish patterns. These are reversal patterns that show up after a pullback (bullish patterns) or a rally (bearish patterns). Bullish Candlestick Patterns Engulfing:This is my all timefavorite candlestick pattern. This pattern consists of two candles. The first day is a narrow range candle that closes down for the day. The sellers are still in control of the stock but because it is a narrow range candle and volatility is low, the sellers are not very aggressive. The second day is a wide range candle that "engulfs" the body of the first candle and closes near the top of the range. The buyers have overwhelmed the sellers (demand is greater than supply). Buyers are ready to take control of this stock! Hammer: As discussed on the previous page, the stock opened, then at some point the sellers took control of the stock and pushed it lower. By the end of the day, the buyers won and had enough strength to close the stock at the top of the range. Hammers can develop after a cluster of stop loss orders are hit. That's when professional traders come in to grab shares at a lower price. Harami: When you see this pattern the first thing that comes to mind is that the momentum preceding it has stopped. On the first day you see a wide range candle that closes near the bottom of the range. The sellers are still in control of this stock. Then on the second day, there is only a narrow range candle that closes up for the day. Note: Do not confuse this pattern with the engulfing pattern. The candles are opposite! Piercing: This is also a two-candle reversal pattern where on the first day you see a wide range candle that closes near the bottom of the range. The sellers are in control. On the second day you see a wide range candle that has to close at least halfway into the prior candle. Those that shorted the stock on first day are now sitting at a loss on the rally that happens on the second day. This can set up a powerful reversal. Doji: The doji is probably the most popular candlestick pattern. The stock opens up and goes nowhere throughout the day and closes right at or near the opening price. Quite simply, it represents indecision and causes traders to question the current trend. This can often trigger reversals in the opposite direction. Bearish Candlestick Patterns You'll notice that all of these bearish patterns are the opposite of the bullish patterns. These patterns come after a rally and signify a possible reversal just like the bullish patterns. Ok, now it's your turn! I'll let you figure out what is happening in each of the patterns above to cause these to be considered bearish. Look at each candle and try to get into the minds of the traders involved in the candle. Kickers There is one more pattern worthy of mention. A "kicker" is sometimes referred to as the most powerful candlestick pattern of all. You can see in the above graphic why this pattern is so explosive. Like most candle patterns there is a bullish and bearish version. In the bullish version, the stock is moving down and the last red candle closes at the bottom of the range. Then, on the next day, the stock gaps open above the previous days high and close. This "shock event" forces short sellers to cover and brings in new traders on the long side. This is reversed in the bearish version. Wait For Confirmation? Most traders are taught to "wait for confirmation" with candlestick patterns. This means that they are supposed to wait until the following day to see if the stock reverses afterward. This is absolutely ridiculous! I ain'twaitin' for nostinkin' confirmation! How's that for good grammar! Seriously, think about it for a second. If a stock pulls back to an area of demand (support) and I have a candlestick pattern that is telling me that buyers are taking control of the stock, then that is all the confirmation I need. As a swing trader I have to get in before the crowd piles in, not when they get in! In other words, I want to be one of the traders that make up the pattern itself! That is the low risk, high odds play. Just the way I like it. How to Read Candlestick Charts Reading candlestick charts is an effective way to study the emotions of other traders and to interpret price. Candles provide a trader with a picture of human emotions that are used to make buy and sell decisions. On a piece of paper, write down the following statement with a big black marker: There is nothing on a chart that matters more than price. Everything else is secondary. Take that piece of paper and tape it to the top of your monitor! I think too often swing traders get caught up in so many other forms of technical analysis that they miss the most important thing on a chart. You do not need anything else on a chart but candles to be a successful swing trader! There is nothing that can improve your trading more than learning the art of reading candlestick charts. Buyers And Sellers There are only two groups of people in the stock market. There are buyers and sellers. We want to find out which group is in control of the price action now. We use candles to figure that out. The picture above shows how candlesticks are constructed. The highs and lows of the time period are called the "wicks" and the open and close form the "body". The candle itself is the "range". When stocks close at the bottom of the range we conclude that the sellers are in control. When stocks close at the top of the range we conclude that buyers are in control. Note: In the stock market, for every buyer there has to be a seller and for every seller there has to be a buyer. If a stock closes at the top of the range, this means that buyers were more aggressive and were willing to get in at any price. The sellers were only willing to sell at higher prices. This causes the stock to move up. If a stock closes at the bottom of the range, this means that sellers were more aggressive and were willing to get out at any price. The buyers were only willing to buy at lower prices. This causes the stock to move down. Where a stock closes in relation to the range tells us who is winning the war between buyers and sellers. This is the most important thing to know when reading candlestick charts. We can classify candles in two categories: wide range candles (WRC) and narrow range candles (NRC). Wide range candles state that there is high volatility (interest in the stock) and narrow range candles state that there is low volatility (little interest in the stock). Note that stocks tend to move in the direction of wide range candles. The arrows on the chart below show how stocks move in relation to the range and closing prices: Wide Range Candles If we know that stocks tend to move in the direction of wide range candles, we can look to the left of any chart to gauge the interest of either the buyers or sellers and trade in the direction of the trend and the candles. The importance of this cannot be overstated! You want to know if there is interest in the stock and if it is being accumulated or distributed by institutional traders. Narrow Range Candles Narrow range candles imply low volatility. This is a period of time when there is very little interest in the stock. Looking at the chart above you can see that these narrow range candles often lead to reversals (up or down) because: Low volatility leads to high volatility and high volatility leads to low volatility. So, knowing this, doesn't it make sense to enter a stock in periods of low volatility and exit a stock in periods of high volatility? Yes. Hammers, Doji's and Shooting Stars? The number one rule when reading candlestick charts is this: You want to buy stocks when nobody wants it and sell stocks when everybody wants it! This is the only way to consistently make money swing trading! I know what you're thinking. You thought this page was going to be about hammers, doji's, and shooting stars. Sorry to disappoint you, but knowing all of the different types of candlestick patterns is really not at all necessary once you understand why a candle represents the struggle between buyers and sellers. Consider this: In this picture we see a classic candlestick pattern called a hammer. What happened to cause this? The stock opened, then at some point the sellers took control of the stock and pushed it lower.
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