The candlestick chart visually represents price action, which many traders worldwide depend on to make trading decisions. From the candlestick chart, traders gain insight into market sentiments, trends, and reversal signals. Observing the candlestick patterns on the charts, traders can glean the stories behind their formation to predict future price movements.

Understanding Candlesticks and Candlestick Patterns

A bullish and bearish candlestick

A candlestick shows price movement within a specific timeframe. For example, a candlestick on the 1-hour chart shows how the price moved within the past hour.

A candlestick has three basic features: the body, wick, and color.

The body: It can be filled or hollow. It indicates the price range between the open and close. Bullish candlesticks close at a higher price, while bearish candlesticks close at a lower price.

The wick: The wick, also called the shadow, extends from the real body to mark the highest and lowest point prices traded within the trading session or timeframe.

The color: It indicates the direction of price movement within the period. Usually, a green (or blue, depending on your preference) candlestick represents a bullish price movement, while a red (or white) candlestick represents a bearish price movement.

A combination of different candlesticks forms patterns on the chart that traders can read to predict future price movements. These candlestick patterns show buying and selling pressures, offering insights into market sentiments.

There are two major categories of candlestick patterns. They are reversal and continuation candlestick patterns. What’s the difference between them?

Reversal vs. Continuation Candlestick Patterns

Reversal Candlestick Patterns

Reversal candlestick patterns point to a potential change in the direction of an existing trend. They form when there is likely to be a shift in market sentiment, either from bearish to bullish or from bullish to bearish. When traders see these patterns on the chart, they get a hint that there will likely be a pause in the trend before a reversal occurs.

Continuation Candlestick Patterns

Continuation candlestick patterns suggest the current trend continues after a temporary pause or consolidation. So, instead of signaling a reversal, these patterns indicate a possible continuation of the current trend.

Five Popular Reversal Candlestick Patterns

1.Bullish/Bearish Engulfing Candlestick Pattern

The engulfing candle is a combination of two candlesticks. The bullish engulfing candlestick pattern consists of a small bearish candle completely engulfed by a long bullish candle. The bullish candle completely covers the bearish candle’s wick and body.

The bullish engulfing candlestick pattern indicates that there was selling pressure at the previous trading session, which was evident with the bearish candle, but buyers completely dominated the new trading session, thereby wiping all the gains from the previous trading session.

Here’s an example of what a good bullish engulfing candle looks like.

Bullish Engulfing

The bullish candle (represented by the green candle) completely swallows or engulfs the bearish candle’s body and wick. When this pattern is spotted at the end of a downtrend, it is regarded as a potential bullish reversal signal.

A bearish engulfing candlestick pattern consists of a small bullish candle followed by a large bearish candle that totally engulfs the bullish candle. It indicates intense selling pressure.

Bearish Engulfing

2.The Pin Bars

Pin bars are single reversal candlestick patterns. Bullish pin bars are often called the hammer. The Hammer is a bullish reversal candlestick with a small body and a long lower wick or shadow. This candlestick indicates that sellers were formerly in control of the market and drove prices down, but before the trading session ended, buyers strongly dominated and pushed prices higher, closing above the opening price. Here’s an example of what a hammer looks like.

Hammer

When hammers are spotted at the end of a downtrend, they indicate a potential bullish reversal signal. Traders often aim to buy after spotting a hammer pattern in demand zones, placing their stop-loss a few pips below the wick of the hammer.

Bearish pin bars, often called the hanging man, are a bearish reversal pattern with a small body and a long lower wick or shadow. They indicate that sellers were initially in control, but buyers could increase prices. However, sellers soon took over again, driving prices down and closing below the session’s opening price. When the hanging man is spotted at the top of an uptrend, traders may look for selling opportunities.

Hanging man

3.Morning/Evening Star

The Morning Star is a bullish reversal candlestick pattern that typically appears at the end of a downtrend. The pattern consists of three candlesticks: a long bearish candle, a small candle of any color, and a long bullish candle. The small candle can be a doji or spinning top. Here’s an example of a morning star candlestick pattern.

Morning Star

The Evening Star is a bearish reversal candlestick pattern and consists of three candlestick formations: a long bullish candle, a small candle of any color, and a long red candle.

Evening Star

4.Three White Soldiers/Three Black Crows

Three white soldiers is a bullish reversal candlestick pattern consisting of three consecutive candles. These candles have long bodies, and each candle’s opening and closing prices are higher than the previous candle’s.

For example, three white soldiers on the daily chart indicate that the buying pressure for each trading day was significantly higher than the previous. Here’s an example of the three white soldiers’ candlestick pattern.

Three White Soldiers

Three Black Crows is a bearish reversal candlestick pattern. Each candle in this pattern consists of three consecutive, bearish, long candles. The close of each candle is significantly lower than the previous candle, indicating selling pressure.

Three Black Crows

5.Bullish/Bearish Harami

The Bullish Harami is a combination of just two candlesticks. The first candlestick wholly covers the body of the second candlestick. The first candle of a bullish harami would be bearish, while the second candle would be bullish.

Bullish Harami

The Bearish Harami also consists of a bullish first candle and a bearish second candle. The second candle’s body must be contained within the first candle.

Bearish Harami

Five Popular Continuation Candlestick Patterns

1.Rising and Falling Three Methods

The Rising Three Methods is a bullish continuation candlestick pattern. This pattern starts with a big bullish candle, followed by three or more small bearish candles that stay within the range of the first bullish candle. The small candles could be two but optimally do not exceed five. Some traders prefer that the small candles do not close below the opening of the bullish candle. A bullish candle succeeds the small bearish candle, closing above the first one. Here’s a pictorial example.

Rising Three Methods

The image shows the two small bearish candles staying within the range of the first bullish candle. However, the next bullish candle closes above the first bullish candle. This confirms the continuation of the bullish momentum, indicating buyers are still in control.

The Falling Three Methods is a bearish continuation candlestick pattern. The first candle is bearish, followed by three (or two but not more than five) small bullish candles that stay within the range of the bearish candle. The small bullish candle is followed by a long bearish candle that closes below the first bearish candle.

The Falling Three Methods

2.Bullish and Bearish Marubozu

A Marubozu is a candlestick with little or no wick or shadow. This means that there was hardly resistance right from the opening of the candlestick to the close. Some marubozu could have no wick at all and those with wicks only have it either at the opening or close of the candle. This indicates that price is moving strongly in one direction. Here are examples of good bullish and bearish marubozu.

Bullish Marubozu

A Bearish Marubozu

3.Bullish and Bearish Separating Lines

A Bullish Separating Line is a two-candlestick pattern that consists of a bearish candle followed by a bullish candle. The bullish candle opens exactly at or gaps slightly above the opening of the previous bearish candle.

Bullish Separating Line

For the bearish separating line, the bullish candle is followed by a bearish candle that opens or slightly gaps below the opening of the bullish candle.

Bearish Separating Line

4.Bullish/Bearish Side-by-Side White Lines

Bullish Side-by-Side White Lines are formed in an uptrend. The pattern consists of a long bullish candle, followed by two or more smaller bullish candles that open and close near each other, maintaining upward momentum. The pattern suggests a temporary pause in bullish momentum before buying pressure resumes.

Bullish Side by Side White Lines

The Bearish Side by Side White Lines has a long bearish candle, followed by two small bearish candles close to each other, indicating a trend continuation.

5.The Tasuki Gaps

The upside or bullish Tasuki gap has the following features:

• The first candle is a long bullish candle.
• The second candle, also bullish, gaps up from the first candle.
• The third candle is a small bearish candle that opens above the first candle but closes within the gap between the first two candles.

Upside Tasuki Gap

The downside Tasuki gap likewise has a first bearish candle, a second bearish candle that gaps down, and a third bullish candle that closes within the first two bearish candles.

Downside Tasuki Gap

Limitations to Using Candlestick Patterns

Although these candlestick patterns can be effective, they may sometimes give false signals and fail. Bullish and bearish reversal patterns may form and fail to trigger a reversal. Similarly, continuation patterns may form and fail to maintain an uptrend or a downtrend.

Consider the following examples:

A failed Bullish Harami Pattern

Price formed the bullish harami at a downtrend, which was supposed to indicate a bullish reversal. But as we can see in the image, the price continued to be bearish, and the bullish harami pattern failed.

A failed Bearish Harami pattern

The bearish harami pattern should have indicated a bearish reversal. However, the price remained bullish, and the pattern failed.

Professional traders do not use candlestick patterns as a standalone signal to enter trade positions. Instead, they often combine the signals with other trading strategies, such as demand and supply RSI indicators, and accept that no strategy can be 100% accurate.

Consider the example below:

This image illustrates how a trader may combine the demand and supply strategy with candlestick patterns. After marking the demand zone, the trader waits until the price forms a bullish reversal pattern.

In this case, the bullish harami pattern is formed. Once this happens, the trader considers this an indication that the price is ready to reverse, and he may take a long trade position.

Conclusion

All traders, whether newbies or professionals, value knowing how to interpret candlestick patterns because they provide valuable insights into market sentiments. By observing the candlestick chart from your computer or phone, you can decipher the trading decisions of many other traders and predict future market movements.

Although learning these candlestick patterns is essential, you should not make trading decisions based solely on candlestick reading. It is beneficial to combine the signals you get from the patterns with other trading strategies, such as demand and supply trading.