Knowing how to read a candlestick chart is essential for both stock trading and foreign currency trading. Candlesticks are a record of price movements that can help a trader to identify trends and spot upcoming breakouts and reversals or retracements. Many traders are able to develop profitable trading systems almost entirely on the basis of candlestick charts, and many more systems rely on them as a first or primary signal.

The chart is made up of a series of blocks or candles, each one showing the open, close, high and low prices over a period. These can be prices of anything: stocks, commodities, currencies or whatever. The open and close prices may be the prices for a day’s trading but in most cases you have control over the period and you can set your chart to show a candle for each hour, for 5 minutes or whatever. If you are designing systems around this type of chart you will probably want to check your signals over more than one time period before you open a trade.

If shown in monochrome, the candle will be unshaded or white for a price that rose during the period. In this case the open price is the bottom of the candle’s wide block and the close price is the top of the block. If the price fell during the period, the body of the candle will be shaded, either black or a color. In this case of course the upper edge of the body is the open price and the lower edge is the close.

In either case, the high during the period is the top of the vertical line or wick stretching upward from the top of the block. The low during the period is the bottom of the vertical line or wick running down from the bottom of the block.

Some charts these days are shown in two colors. You might have green or blue for a bullish period when the price was rising and red for a bearish period when the price was falling.

The beauty of candlesticks is that you can see the direction of price movements at a glance. Not only do you see whether the candle as a whole is above or below the previous one, but you can also tell by the colors whether it marked a reversal or a continuation of the trend.

Certain patterns are particularly important in learning how to read candlestick charts.

In some cases of course the open or close will be the high or the low. In that case you do not have a wick in one or both directions. If there is no wick in either direction, this is called a Marubozu pattern.

In another case, the opening and closing prices may have been the same. Then there is no candle body but only wicks stretching up and down from the horizontal line that marks the open and close. This is called a Doji pattern.

If the body of the candle is long with short or non existent wicks, close to Marubozu, this indicates a fairly steady movement, possibly part of a trend. The color of the candle will tell you whether it is an upward or downward movement.

On the other hand if the wicks are long and the body is short or non existent, more like the Doji pattern, this can indicate a choppy market with big fluctuations. Trend based trading will tend to be suspicious of Doji patterns, which may be a sign that the market is becoming unreliable.

Of course one candlestick by itself is not enough to form the basis of a trading decision. You will always look at a series of candles. For example, you can draw trend lines along the highest highs and lowest lows on candlestick charts. These will help you to identify whether a trend is forming, or if the lines are converging, whether a breakout may be expected. When you know how to read a candlestick chart you can base systems around these indications.

Filed under: Forex Charts And Indicators

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