Important Candlestick Patterns in Technical Analysis

Important Candlestick Patterns in Technical Analysis

What Is a Candlestick?

A candlestick is a type of price chart used in technical analysis that displays prices of a security for a specific time period and shows:

• Open: Price at the beginning of the period
• Close: Price at the end of the period
• High: Highest price reached
• Low: Lowest price reached

The body of the candlestick shows the range between open and close, while wicks (shadows) show the high and low.

Candles are two types- Bullish or Bearish.

When the close price is higher than the open price such candle is known as Bullish.

When the close price is lower than the open price such candle is known as Bearish.

Patterns formed by a single or grouping of two or more candles in a certain sequence are known as Candlestick Patterns, are visual representations of price movements in financial markets, used in technical analysis to predict future price behavior. Patterns are analyzed to identify potential reversals, continuations, or indecision in market trends. Below is a concise overview of key candlestick patterns, their types, and their significance.

Types of Candlestick Patterns: 

Candlestick patterns are broadly categorized based on their implications: bullish, bearish, reversal, continuation, and indecision. 

Hammer Pattern:  Small body at the top, long lower wick (at least twice the body length), minimal upper wick. Appears after a downtrend, signaling potential bullish reversal pattern. Indicates buyers rejected lower prices. 

Key Features of a Hammer Candlestick:

1. Shape:

   • Small real body (green or red, but bullish confirmation is stronger if green).

   • Long lower shadow (at least 2-3 times the length of the body).

   • Little to no upper shadow.

2. Occurrence:

   • Forms after a downtrend, indicating selling exhaustion and potential buying pressure.

3. Psychology Behind the Pattern:

   • Sellers push the price lower during the session, but buyers step in and drive it back up near the opening price.

   • Shows rejection of lower prices, suggesting a possible trend reversal.

Inverted Hammer Patterns: An inverted hammer is exactly – a hammer turned upside down. A long upper shadow (wick),  the upper wick should be twice as big as the body. 

Key Features of an Inverted Hammer:

1. Shape:

   • Small real body (preferably bullish/green, but bearish/red can also work if confirmed).

   • Long upper shadow (at least 2-3 times the length of the body).

   • Little to no lower shadow.

2. Occurrence:

   • Appears after a downtrend, indicating that buyers are testing resistance but haven’t fully taken control yet.

3. Psychology Behind the Pattern:

   • Buyers push the price up during the session, but sellers pull it back down near the open.

   • Despite the rejection, the long upper shadow shows buying interest, hinting at a possible reversal.

Bullish Marubozu Pattrens: Long green (bullish) candle with no or minimal wicks. Shows strong buying pressure throughout the session.

Key Features of a Bullish Marubozu:

1. No Shadows (Wicks):

   • No upper or lower shadow—the candle opens at the low and closes at the high.

   • The entire price action happens between the open and close, showing absolute dominance by buyers.

2. Long Green (Bullish) Body:

   • The larger the body, the stronger the bullish momentum.

   • Indicates strong conviction from buyers with no pullback.

3. Occurrence:

   • In an uptrend: Suggests continuation of bullish momentum.

   • At the end of a downtrend: Signals a potential bullish reversal (if confirmed).

Psychology Behind the Pattern:

• Buyers are in complete control—there’s no rejection or pullback.

• The price opens at the low and keeps rising until the close, showing strong demand.

• Often seen with high trading volume, confirming strong participation.

Bearish Marubozu Patterns:  Long red (bearish) candle with no wicks. Indicates strong selling pressure.

Key Features of a Bearish Marubozu:

1. No Shadows (Wicks):

   • No upper or lower wick—the candle opens at the high and closes at the low.

   • Price does not trade outside the open/close range, showing complete seller dominance.

2. Long Red (Bearish) Body:

   • The larger the body, the stronger the bearish momentum.

   • Indicates strong conviction from sellers with no pullback.

3. Occurrence:

   • In a downtrend: Suggests continuation of bearish momentum.

   • At the end of an uptrend: Signals a potential trend reversal (if confirmed).

Psychology Behind the Pattern:

• Sellers are in full control—no buying pressure pushes the price up.

• The price opens at the high and keeps falling until the close, showing panic selling or strong distribution.

• Often accompanied by high volume, confirming strong selling interest.

Hanging Man Patterns: The Hanging Man is a bearish candlestick pattern that often signals a potential reversal in an uptrend.

Key Features of a Hanging Man Candlestick:

1. Shape:

   • Small real body (either bullish or bearish, but color is less important).

   • Long lower shadow (at least 2-3 times the length of the body).

   • Little to no upper shadow.

2. Occurrence:

   • Forms after an uptrend, suggesting exhaustion among buyers.

   • Indicates that sellers are starting to gain control.

3. Psychology Behind the Pattern:

   • The long lower shadow shows that sellers pushed prices down significantly during the session, but buyers managed to recover some losses by the close.

   • However, the inability to sustain higher prices signals weakening bullish momentum.

Doji Patterns: The Doji is a neutral candlestick pattern that signals indecision in the market. It often appears at key turning points, suggesting a potential trend reversal or continuation pause.

Key Features of a Doji

1. Shape:

   • Very small or no real body (open and close are nearly the same).

   • Long upper & lower shadows (wicks)—showing price rejection in both directions.

2. Types of Doji:

   • Standard Doji (balanced wicks)

   • Long-Legged Doji (very long wicks, extreme indecision)

   • Gravestone Doji (no lower wick, bearish reversal signal)

   • Dragonfly Doji (no upper wick, bullish reversal signal)

3. Occurrence:

   • After an uptrend → Potential bearish reversal (if confirmed).

   • After a downtrend → Potential bullish reversal (if confirmed).

   • In a sideways market → Indicates continuation of consolidation.

Psychology Behind the Doji

• Buyers and sellers are in equilibrium—neither side gains control.

• The long wicks show price rejection at both highs and lows.

• Often appears at support/resistance levels, signaling exhaustion of the current trend.

Bullish Engulfing Patterns: A bullish engulfing is a two-candlestick pattern in technical analysis that signals a potential reversal from a downtrend to an uptrend.

Key Features of a Bullish Engulfing Pattern:

1. First Candle (Bearish): A red (or black) candle, indicating selling pressure.

2. Second Candle (Bullish): A larger green (or white) candle that completely engulfs the body of the previous candle (open and close).

3. Trend Context: Occurs after a downtrend or pullback, suggesting a shift in momentum.

Interpretation:

• Bullish Reversal Signal: Buyers have overwhelmed sellers, indicating potential upward movement.

• Confirmation: Traders often wait for the next candle to close higher for validation.

• Volume: Higher trading volume on the engulfing candle strengthens the signal.

Bearish Engulfing Patterns: A bearish engulfing is a two-candlestick pattern in technical analysis that signals a potential reversal from an uptrend to a downtrend.

Key Features of a Bearish Engulfing Pattern:

1. First Candle (Bullish): A green (or white) candle, indicating buying pressure.

2. Second Candle (Bearish): A larger red (or black) candle that completely engulfs the body of the previous candle (open and close).

3. Trend Context: Occurs after an uptrend or rally, suggesting a shift in momentum.

Interpretation:

• Bearish Reversal Signal: Sellers have overwhelmed buyers, indicating potential downward movement.

• Confirmation: Traders often wait for the next candle to close lower for validation.

• Volume: Higher trading volume on the engulfing candle strengthens the signal.

Morning Star Patterns: The Morning Star is a bullish three-candlestick reversal pattern that signals a potential upward trend reversal after a downtrend.

Key Features of a Morning Star Pattern:

1. First Candle (Bearish): A long red (or black) candle, confirming the existing downtrend.

2. Second Candle (Small Body): A small-bodied candle (doji, spinning top, or small bullish/bearish) that gaps down, showing indecision.

3. Third Candle (Bullish): A long green (or white) candle that closes at least halfway into the first candle’s body, confirming the reversal.

Interpretation:

• Bullish Reversal Signal: Sellers lose control, buyers step in.

• Gap Support: The second candle often gaps down, increasing significance.

• Confirmation: Stronger if the third candle closes above the first candle’s midpoint.

• Volume: Rising volume on the third candle adds validity.

Evening Star Patterns: Evening star is a bearish reversal candlestick pattern that signals a potential top in an uptrend, suggesting a shift to a downtrend.

Key Features:

1. First Candle (Bullish):

   • A strong green (or white) candle, confirming the ongoing uptrend.

2. Second Candle (Small Body / Indecision):

   • A small-bodied candle (doji, spinning top, or small bullish/bearish).

   • Often gaps up from the first candle, showing buyer exhaustion.

3. Third Candle (Bearish):

   • A long red (or black) candle that closes at least halfway into the first candle’s body, confirming the reversal.

Interpretation:

• Bearish Reversal Signal: Buyers lose momentum, sellers take control.

• Gap Importance: The second candle’s gap up increases pattern validity.

• Confirmation: Stronger if the third candle closes below the midpoint of the first candle.

• Volume: Higher selling volume on the third candle strengthens the signal.

Key Considerations in Using Candlestick Patterns

• Context Matters: Patterns are more reliable when analyzed in the context of the prevailing trend, support/resistance levels, and volume. For example, a hammer at a key support level after a downtrend is more significant than one in a ranging market.
• Confirmation: Always seek confirmation from subsequent candles, indicators (e.g., RSI, MACD), or volume spikes. A pattern alone is not a definitive signal.
• Timeframes: Patterns on higher timeframes (e.g., daily, weekly) are generally more reliable than those on lower timeframes (e.g., 1-minute).
• Market Conditions: Patterns perform differently in trending vs. ranging markets. For instance, continuation patterns like Rising Three Methods are more effective in strong trends.
• Limitations: Candlestick patterns are not foolproof. False signals are common, especially in volatile or low-volume markets. Combine with other technical tools for better accuracy.

Practical Application

Traders use candlestick patterns to:

• Identify Entry/Exit Points: For example, a bullish engulfing pattern at a support level may signal a buy, while a bearish engulfing at resistance may signal a sell.
• Assess Market Sentiment: Patterns like doji or spinning tops indicate indecision, prompting traders to wait for confirmation.
• Combine with Other Tools: Pair candlestick patterns with moving averages, Fibonacci retracements, or Bollinger Bands to enhance decision-making.