Basics of Candlestick Chart and Different Candlestick Chart Patterns

We will discuss in this chapter about the basics of candlestick chart also known as Japanese Candlestick Chart and explain different types of candlesticks patterns, how to read candlestick chart & analysis with example in a short and simple manner. This chapter could be a Candlestick Chart Free Course for beginners in the stock market.

What is Candlestick

Candlestick Chart is combination of Candle like bodies with upper and lower wicks or shadows which defines the detailed movement of price during a particular time period. This is the most preferred chart type used in stock market as it shows a complete picture of price movement and its visualization is also easy to understand.

There are various other types of charts also, which we have discussed in basics of different types of charts in our previous chapter.

Candlestick OCHL

In Candlestick Chart there are candles of two colors i.e. black & white or Red & Green. All the candles shows the open, close, high & low (OCHL) of the price in that particular time frame that could be 1 minute, 5 minutes, 10 min, 15 min, 30 min, 1 hour, 1 day, 1 week etc. If we select 1 day candle then each candle will show opening, closing, highest & lowest price of the instrument (stock or indices) in that particular day.

Candlestick Body

Each candle has a body (also called as “real body”) which shows opening & closing price and the gap between them shows the strength of price momentum, longer the body more the strength and smaller body means less momentum or price consolidation. Candle may have an upper wick (also known as tail or shadow) which shows the highest price and a lower wick which shows the lowest price (as described in the picture here). Wicks shows the fluctuations or volatility in price movement, longer wicks means higher volatility and smaller wicks means strength in momentum.

Candlestick Color

If the price opened at higher and closed at lower, then the candle color would be Red or Black and in opposite if opening price is lower and closing price is higher, then the candle color would be Green or White. Black or Red candle shows downward or bearish movement of price and white or green candle shows upward or bullish movement of price.

The color and structure of the candle shows the sentiments involved in the price movement, hence technical analysts analyses the candlestick chart to read the market sentiments & price action and calculate the probability of future price movement of the stock or indices.

Types of Candlestick Chart Patterns

There are various types of Candles and Candlestick Chart Patterns; we will discuss some of them which are widely used and popular among the stock market traders and technical analysts.

Single Candle Candlestick Chart Patterns

Marubozu Candle
Hammer Candle
Hanging Man Candle
Inverted Hammer Candle
Shooting Star Candle
Star candle
Doji Candle
Dragonfly Doji
Gravestone Doji

Two Candle Candlestick Chart Patterns

Bullish Engulfing Pattern
Bearish Engulfing Pattern
Bullish Harami Pattern
Bearish Harami Pattern
Piercing Pattern

Three Candle Candlestick Chart Patterns

Morning Star Pattern
Evening Star Pattern

Multiple Candle Candlestick Chart Patterns

Flag Candlestick pattern
Inverted Flag Candlestick pattern
Cup and Handle Pattern
Head & Shoulders Pattern
Inverted Head & Shoulders Pattern

Single Candle Candlestick Chart Patterns

Marubozu Candle

Marubozu Candle has a long body with small, negligible or no wicks. It shows a strong momentum in price which may continue further in next few days. Red Marubozu Candle shows stronger bearish sentiments due to selling pressure and Green candle shows bullish sentiments due to higher buying interest.

Hammer Candle

Hammer Candle has a small body with long lower wick and no or negligible upper wick. The lower wick should be more than twice of the real body. It appears in a down trend and indicates there could be a trend reversal and bulls may take the charge. The sentiments behind this candle is that the bears drag the price to much lower with selling pressure but could not hold at that level and bulls pull the price to higher level. So there may be more buying interest in next days and the bearish trend may reverse. The color of the candle is not more important but a green candle shows more strength in bullish sentiments. A green bullish candle in the next day will confirm the trend reversal signal.

Hanging Man Candle

Hanging Man Candle properties are similar to a hammer candle, the difference is it occurs in an uptrend or bullish trend. It shows signal of top reversal due to higher selling pressure and the price may go downward in the next days.

A red body of the candle shows more strength in bears and a red bearish candle in the next day confirms the signal of bearish trend.

Inverted Hammer Candle

Inverted Hammer Candle structure is opposite of the hammer candle, that is a small real body with a long upper wick. The size of the upper wick should be more than the double of the body size and there should be no lower wick or may have very small lower wick. Larger wick indicates more chances of trend reversal. The color of the candle is not important but a green candle preferably shows more bullish strength.

This candle occurs in a down trend and shows that the bulls pull back the price from the down ward movement to a much higher level but could not sustain the strength; they may take the price higher in the next day with more strength and lesser resistance from the bear side. The longer the upper wick there is more chance of trend reversal. A green bullish candle in the next day confirms the signal.

Shooting Star Candle

Shooting Star Candle structure is similar to an Inverted Hammer Candle but it appears in an uptrend showing signals to an end in uptrend and down trend is coming soon.

Although the color is not important but a red body shows more strength in the bearish sentiments and a red candle or a gap down opening in the following day gives confirmation to the beginning of a bearish trend signal.

Star candle

Star candle is a small body candle with upper or lower wick or both but its body should not overlap its previous and following candle’s body, there must be some gap from its neighboring candles real body.

It can appear both at lower or upper end and its color either green or red is not important.

Its position decides its signal and its category or name. Shooting Star is also a star candle.

Doji Candle

Doji Candle is generally a candle with no body or a body like a line with long wicks. When the opening price and closing price of a candle is same or have very minimal difference with much more difference between high and low price then it forms a doji candle. It shows the price move much higher and lower but closed at the same price where it was opened; hence there is equal power and indecisiveness in both the buyers and sellers, we could not say who is the winner. Therefore the price trend may reverse in the next candle.

If a doji appears in a trending market either in bullish trend or bearish trend then it gives a strong signal of trend reversal and market may move in opposite trend but if it appears in a consolidating market where there may be a number of doji like and small candles then its signal may not be so strong.

Dragonfly Doji

Dragonfly Doji – Here the open, high & close price is almost same but the low price is much lower.

This candle shows the price opened higher and the bears drag it to much lower level but the bulls pull it to the same level where it was opened, hence both have equal power here but the next move will decide who will win.

Gravestone Doji

Gravestone Doji is opposite of Dragonfly Doji candle, here the open, low & close price is almost same but the high price is much higher.

Bulls tried to pull the price higher but bears drag it to the opening level and closed as same to open price.

Hence we could not say whose power is more here and the trend may reverse or become wicker in the next candle.

Two Candle Candlestick Chart Patterns

Bullish Engulfing Pattern

Bullish Engulfing Pattern is a two candle pattern, the first is a small bearish red candle and the second one is a long body bullish green candle which completely engulfs or covers the first candle. It shows, after a bearish candle in the down trend, price opens lower than the previous candle’s close but the bulls takeover the bears and pull the price higher and closed at more than previous day’s open price, which completely change the downward move of the price and may start an uptrend. If the second bullish candle completely covers the first bearish candle with its wicks also then it shows a strong bullish signal.

Bearish Engulfing Pattern

Bearish Engulfing Pattern is the opposite of bullish engulfing pattern, here the second long body bearish red candle completely covers the first small bullish candle in an up trending market.

It shows the bears takeover the bulls and changed the market trend to downward and a bearish trend may start.

Bullish Harami Pattern

Bullish Harami Pattern – In Japanese term “Harami” means pregnant, so this pattern also looks like a pregnant woman picture.

Bullish Harami Pattern is a reversal pattern consists of two candles and occurs in a bearish trend. Here the first candle is a long body bearish red candle and the next candle is a small body green candle within the body of the first candle.

That means the open of and close of the second candle is between the open and close of the first candle. If the open, close, high & low all are within the open and close of the first candle (that means the second candle with its wicks is covered within the body of the first candle) then the signal is considered stronger. The Bullish Harami Pattern indicates that the bearish trend is over and a bullish trend may begin, a strong green bullish candle the next day confirms the signal.

Bearish Harami Pattern

Bearish Harami Pattern structure is similar to the bullish harami pattern but the candle colors are opposite and it occurs in a bullish trend. Here the first candle is a long body bullish green candle followed by a small body red candle within the body of the first candle. That means the price open gap down after a long up trend and closed lower which indicates profit booking by traders and the uptrend may reverse. A red bearish candle the next day gives a confirmation.

Piercing Pattern

Piercing Pattern is a two candle pattern containing first candle as a long bearish red candle followed by a long bullish green candle with gap down opening. It occurs in a downtrend when the price moving downward forms a strong bearish red candle, then the next candle opens gap down but bulls become stronger and drag the price upward and closes above the half of the previous red bearish candle.

This pattern gives signal of a strong trend reversal and bullish trend may start after a long bearish trend.

Three Candle Candlestick Chart Patterns

Morning Star Pattern

Morning Star Pattern appears at the bottom of a down trend and gives a hope of morning after a dark night. It gives signal of bottom reversal and beginning of an uptrend.

The first long body bearish red candle shows heavy selloff at the end of a down trend.

The second small body star candle opened gap down but trade within a small range and closes near the same level to the opening price indicates indecisiveness within the buyers and sellers which gives a hope of trend reversal.

The third long body green bullish candle opened with gap-up and rises higher up to cover more than half of the first candle, gives confirmation that bulls have taken the charge and an uptrend may begin from here.

Morning Star Pattern is a bullish trend reversal pattern. Smaller body of the star candle at the middle point with some gaps from the first and third candle shows more sing of indecisiveness and longer body of the first & third candle indicates stronger sign of trend reversal.

Evening Star Pattern

Evening Star Pattern occurs at the top of an uptrend and considered as a top reversal pattern. It consists of a long body green candle then a small body star candle with gap up opening and then a long body bearish red candle with body covering more than half of the first long body green candle.

Both the long body green & red candles (the first & third candle) should have some gaps from the star candle (second candle in the middle) and the star candle with smaller body indicates more signs of reversal and indecisiveness.

This Evening Star Pattern indicates that the bullish trend is over and a down trend with fall in price may start.

Multiple Candle Candlestick Chart Patterns

Flag Candlestick pattern

This is a trend continuation chart pattern. As its name seems, it looks like a flag on the flagpole and indicates that if the price breaks out the flag then the rising trend will continue further.

When the stock (or indices) price rises with a strong momentum with high volume due to higher buying interest and enthusiasm in the investors, it makes a flagpole like structure.

Then the price faces resistance at some level, the sharp rise takes a pause and price consolidates for some time due to profit booking with typically lower volume. Price moves in a zigzag manner within a channel. But the price doesn’t fall below the mid-level of the flagpole structure. It creates a flag-like structure.

It indicates that the buying interest may have decreased and few investors are booking profit but as the price is not falling more, there are some positive sentiments in the market for the stock and new investors may jump into it. Then the price may break out of the channel with good volumes and continue its rising trend & momentum. The target upward move after the breakout is generally considered as similar to the height of the flagpole structure.

For example – if the price was at 100 at the base of the flagpole

Touched 150 at the top of the pole

during consolidation fall up to 120 with a channel height of 10

breakout the flag channel at price level of 130

then the price may rise up to 130 (breakout price) + 50 (height of the pole) = 180 level

Inverted Flag Candlestick pattern

Inverted Flag Candlestick pattern is the opposite of the flag pattern. It appears to be in a downtrend. Price fall sharply which makes the flagpole like structure then the price consolidates for some time in the lower level and creates a flag like structure.

If the price doesn’t raise more and break down the flag channel then the downtrend may continue with similar momentum. The structure and characteristics are almost similar to the flag pattern but the sentiment here is bearish.

Cup and Handle Pattern

The structure of the Cup and Handle pattern is like ‘U’ shape or ‘cup’ like pattern with a small ‘handle’ type of figure. It is a bullish continuation pattern.

After a strong uptrend when price drops due to profit booking and selloff, price takes support at lower level, consolidate for some times then slowly rises and touched its previous high level, it forms a ‘U’ or ‘cup’ like shape,

Then again the price drops facing resistance at its previous high level but doesn’t fall more and come back to its high which forms the ‘handle’ like structure.

Then from this level the price breaks out and touches a new high which would be as higher from its breakout level at least similar to the height of the ‘cup’ structure.

The Cup and Handle pattern gives a buying signal and traders take positions when the ‘handle’ structure forms or when price breaks out with good volumes.

Head & Shoulders Pattern

Head & Shoulders Pattern is a combination of three peaks of price level typically in an uptrend that looks like a head with two shoulders at both sides. It is a trend reversal pattern which gives signal of an end in uptrend.

The first peak that is the left shoulder is when price touches its new high in an uptrend, then the price falls and touches its low which is its support level, it forms the left shoulder.

Again price moves upward and touches a new high that is higher than the previous high (peak of the left shoulder), then price falls up to its previous bottom or support level which forms the head structure.

Then again the moves up but could not touch its previous high (that is the peak of head), retrace from the level of first high (peak of the left shoulder) or lower and touch the bottom support level. It forms the right shoulder.

If we draw a trend line connecting the lower bottoms (two bottom points of the head) then this will form the neck line.

If price break down the neckline from the bottom of the right shoulder then it may fall up to a target that is similar to the height of head from the neckline. That means the distance between the neckline and peak of the head would be similar to the distance from the neckline break down level of the right shoulder to the target price.

Inverted Head & Shoulders Pattern

Inverted Head & Shoulders Pattern – its formation and structure is opposite or inverse of the Head & Shoulders Pattern. It appears in a down trend and gives signal of reversal in the down trend and beginning of an uptrend.

The left shoulder forms when price touched its lower bottom in a down trend. It takes support at that level and moves upward.

Then the price face resistance at the neckline level falls down and create a new low, which is the head of the pattern.

The right shoulder forms when price retrace from the neckline resistance but don’t fall more than the previous lows. Then price moves upward and after it breakout the neckline with good volume then it may go higher similar to the height of the head from the neckline.

Conclusion

Candlestick chart patterns are used to analyze the price action and the market sentiments behind it. These are being used by traders since several decades but there are no thumb rules that always the signals it gives will be accurate and price will move accordingly as explained in its definition.

And many times it becomes difficult to identify the actual chart pattern. Therefore traders use volume, strength, open interest, indicators and several other tools & along with Candlestick chart patterns to calculate and predict price movement. You can check our other related chapters to read more about basics of indicators & tools used in Technical Analysis and the basic psychology behind the Technical Analysis.

In this chapter we have explained the basic definitions of Candlestick Chart and Different Candlestick Chart Patterns in short and simple manner for better understanding of the beginners in the stock market.

Disclaimer – In this chapter we have discussed the basic features for information and educational purposes only and not any recommendation. You should make proper analysis before making any decision and take professional advice if you need because investing in stock market is subject to market risks; there are a lot of factors which may affect the price movement. If you like our content please share it with your friends and thanks for visiting again.