By observing continuation, as well as reversal pattern formations on the candlestick charts, a trader is able to identify a bullish, or bearish market. Displayed below are the more commonly occurring pattern formations on a candlestick pattern, and how to identify them.
The momentum of a market defines the rate of acceleration of its price, or volume. As an oscillator, it aids in the identification of trend lines, as it measures the rate which price moves upwards, or downwards; candlestick pattern formations may show signs of price direction and momentum. If price accelerates, upwards, the trader may consider opening a long position, whereas if deceleration of the price occurs, it may be a signal to open a short position. The below examples are based on price theory, which in turn, is based on historical data, which may not at all reflect the future of the prices performance. Always trade with in safe bounds, and with the best risk management possible to your abilities.
Three Black Crows – bearish pattern
When three long-bodies are present in a row, the term ‘three black crows’ is what they are called, and are considered a bearish pattern; each candle would have a lower closing price than the previous candle, and the next one would open the body of the previous candle
This reversal pattern is made up of three candlesticks, following the following layout: the first candle is a large, hollow and up-trending, the following candle is smaller (either hollow or solid), and closes at a higher level than the previous candle. The last candle is a large-bodied candle, red in color, which opens below the second candle, closing somewhere around the middle of the first candle.
The three-line strike reversal pattern formation has a total of three consecutive candles (red in color), and have an opening price lower than that of the previous candle. It can be expected that the following candlesticks, will have a large-bodied, hollow candle with an opening price lower than that of the prior red (or third) candle’s close, and closes above the first candle’s open.
When the three consecutive (hollow) candlesticks are present, the trader may recognize the bullish three line strike. Each candle will have closed higher than the previous candle has. Following this pattern, the trader may see a large red candle which opens higher, and closes below the opening of the first candle.
Two Black Gapping – bearish pattern
Two black gapping bearish patterns emerge from a downtrend and predicts a possible continuation of the trend. The initial candle opens a lower gap than the previous candle; the second of the two candles closes below the open price of the first.
This pattern formation is present when a large, hollow candle is followed by a small, red candle, which has closed at a higher price. The third candle is also small (hollow, or red). By the fourth day, a large hollow candlestick emerges and closes higher than the high of the previous ones.
Some candlestick patterns do not necessarily show continuation or reversal of trends, but may instead show investor sentiment on prices; here are some to be aware of and to familiarize the trader with the terms which will be heard while trading the financial markets.
Hammer – bullish pattern
This candlestick pattern occurs at the bottom of a downtrend.
The Doji candlestick pattern can be found at both the top or at the bottom of trends and is neither a clearly bearish or bullish pattern.
A small-bodied candle appears at the peak of price movement and may signal indecision on behalf of buyers and sellers.
At the end of an uptrend you may see the hanging man pattern formation. It’s often present when volatile sell-offs take place when the market opens. However, as the trading day goes on, traders may buy the market with the price rising and closing close to the opening price.