If you plan to learn technical analysis, it is important for you to learn about candlestick charts. Candlestick charts are one of the most important and popular ways by which traders and investors visualize and interpret price information. 

Initially, candlestick charts could look like they are complex, but once you understand how to read them, they become a powerful tool to gauge market psychology, price action, momentum, and more. In this blog, we are going to break down candlestick basics and show you how to make use of them across equity markets, forex, futures and options.

How to Read Candlestick Charts?

A candlestick is a graphical representation of price movement of various securities over a specific period of time. A candlestick can represent one minute, 15 minutes, 30 minutes, one hour, four hours, one day, one week, two weeks, one month, etc. 

A group of candlesticks will form a candlestick chart, which packs in more information and it is different from line charts which plot only closing prices. Candlesticks display four vital data points during any specific timeframe and they are open price, close price, high price and low price. 

Each candlestick has a body and two wicks (also known as shadows). The area between open price and close price is the body and the thin line on top and bottom of the body are known wicks. Candlesticks are broadly classified into Bullish, Bearish and Doji.

What is a Bullish Candlestick?

A bullish candle (often represented in green or blue or white) is formed when the closing price is higher than the opening price and it signals buyers were dominant during that timeframe. Let us take look at a few common types of bullish candlesticks. 

Bullish Engulfing: This is a two candlestick pattern where a small bearish (red or black) candlestick is engulfed by a large bullish (green or blue or white) candle. 

Hammer: A single candlestick with a long lower shadow which is at least twice the body size. The body size is usually small and it indicates that the traders have rejected the lower price after a downtrend. It indicates a possible trend reversal.

Morning Star: A candlestick pattern which has three candlesticks where the first candlestick is a long bearish candle followed by a small-bodied candlestick which indicates indecision and a long bullish candlestick.

Three White Soldiers: Three consecutive long-bodied green candles that close progressively higher, indicating strong, sustained buying momentum.

Inverted Hammer: This candlestick pattern is also known as pin bar and has a small body and a long upper wick. This kind of candlestick appears at the bottom of a downtrend and shows that buyers are trying to push the price of a security up.

What is a Bearish Candlestick?

A bearish candlestick is formed when the closing price is less than the opening price. It is often represented in red or black. A bearish candlestick indicates that the sellers were dominant during the timeframe. Here are some of the most common types of bearish candlesticks.

Bearish Engulfing: A small bullish (green) candlestick is engulfed followed by a large bearish (red) candlestick. It usually signals some kind of selling pressure during that specific period and it also indicates a likely trend reversal. 

Shooting Star: A single candlestick with a long upper wick and small body at the bottom, indicating that buyers had rejected the initial price increase during that timeframe. 

Hanging Man: A hanging man candlestick pattern will have a small body with a long shadow at the bottom. This candlestick appears at the top of an uptrend and it usually means that there is an increase in selling pressure and possible topping out.

Three Black Crows: Three consecutive candlesticks which have long bodies with small wicks or no wicks on either side. This candlestick patter suggests a strong bearish signal and a likely sustained downtrend.

Dark Cloud Cover: This candlestick pattern appears when a red (bearish) candle opens above the high of previous green candlestick and closes below its midpoint. This indicates that the bulls have lost momentum and bears have taken over. 

What is a Doji Candlestick?

A Doji candlestick is formed when neither buyers nor sellers are dominant. The open and close prices are almost the same and the body is really thin. The wicks can be long or short. This doji candlestick generally denotes that the market participants are indecisive or may be on the sidelines.

Long-Legged Doji: This candlestick pattern has an extended upper and lower wicks, indicating high volatility and significant price movement during the session, but ultimately ending in a stalemate as buyers and sellers 

Dragonfly Doji: This Doji candlestick will look like a “T” shape with a long lower shadow and almost no upper shadow. It often appears at the bottom of a downtrend and it generally signals a potential bullish reversal.

Gravestone Doji: The opposite of the Dragonfly is Gravestone Doji. It will look like an inverted “T” with a long upper shadow. It typically appears at the top of an uptrend, signaling a potential bearish reversal.

Four-Price Doji: A rare version where the open, close, high, and low are all identical, resulting in a single horizontal line. This usually occurs in markets or with respect to a particular security when there is extremely low liquidity. 

Conclusion

Candlestick charts are an invaluable tool for traders and investors to study price action, gauge market mood and identify potential reversals in trends. These candlesticks comprise a lot of information including the opening, highest, lowest, and closing prices of a security and indicate the probable direction of the price. Anyway, we should not use them in isolation. It is always wise to use them along with other technical indicators before making your decision.