Basic Bar and Candlestick Formations
I. Basic Bar Formations (OHLC Charts)
Bar charts are often called Open, High, Low, Close (OHLC) charts because they incorporate all important data. The distance from the high to the low represents the range of each time period. Bar charts allow traders to identify patterns easily by comparing two consecutive bars.
A. Key Reversal Patterns
- Bearish Key Reversal: Formed at a market top. Prices surge to a new high (usually significantly higher than the previous day), but then reverse lower and close below the previous bar's close.
- Bullish Key Reversal: Formed at the bottom of a decline. Prices first collapse to a new low, followed by a recovery to above the previous bar's high and closing up on the day.
B. Two-Bar Reversal Patterns
- Bearish Two-Bar Reversal: Occurs at a market top. Prices open at the same level as yesterday but then close lower, with the same low as the previous bar.
- Bullish Two-Bar Reversal: Occurs at a market bottom. Prices open at the same level as yesterday but then close higher, with the same high as the previous bar.
C. Inside Day Patterns
- Bearish Inside Day: Occurs at a market top. Prices stay within the range of the previous bar, failing to make either a new high or a new low.
- Bullish Inside Day: Occurs at a market bottom. Prices stay inside the previous bar, failing to make either a new high or a new low.
D. Outside Day Patterns
Note: Outside days are stronger signals than key reversals and two-bar reversals.
- Bearish Outside Day: Occurs at a market top. Prices surge to new highs, only to reverse lower and close below the previous bar's low.
- Bullish Outside Day: Occurs at the bottom of a decline. Prices first collapse to new lows, followed by a recovery above the previous bar's high and close.
E. Spike Reversal
The spike is the only reversal bar signal whereby the color remains the same.
- Bearish Spike: Occurs at a market top. Prices surge to a new high, then reverse lower and close near the open level but higher than the previous bar's close.
- Bullish Spike: Occurs at the bottom of a decline. Prices first collapse to a new low, followed by a recovery higher and a close near the open level but lower than the previous bar's close.
II. Japanese Candlesticks
Candlestick analysis originated in Japan during the 16th century, used by rice traders. Japanese candlesticks are leading indicators that provide early warning signals for possible price changes. Patterns can help traders identify trend continuations and reversals.
A. Candlestick Components
A candle is made up of:
- Body: The rectangular part, representing the difference between the open and the close.
- Upper and Lower Shadows: Show the difference between the body and the high (upper shadow) and the body and the low (lower shadow).
B. Analyzing a Candlestick
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Color of the Body:
- Green candle is bullish.
- Red candle is bearish.
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Size of the Body:
- A large body indicates that either buyers or sellers were winning (e.g., a large red candle shows sellers were in control).
- A small body represents price consolidation (indecision).
- Length of the Shadows: The longer the shadows, the more volatile the price action.
C. Doji Candlesticks (Indecision)
Dojis have no body because their open and close prices are the same or almost the same. They generally suggest indecision or a struggle between buyers and sellers, and are considered neutral patterns. Bias depends on the prior trend and confirmation from the following candle.
- Classic Doji: Doji with relatively small shadows.
- Long Legged Doji: Doji with large upper and lower shadows.
- Dragonfly Doji: Doji with no upper shadow but a very long lower shadow.
- Gravestone Doji: Doji with no lower shadow but a very long upper shadow.
D. Popular Candlestick Reversal Patterns
| Pattern Name | Trend Indication | Formation Summary |
|---|---|---|
| Bearish Engulfing | Bearish Reversal (Market Top) | A red body is formed that opens higher and closes lower than the previous green candle, fully engulfing it. |
| Bullish Engulfing | Bullish Reversal (Market Bottom) | A green body is formed that opens lower and closes higher than the previous red candle, fully engulfing it. |
| Dark Cloud Cover | Bearish Signal (Market Top) | A strong green body is followed by a candle that opens above the previous day's high but closes lower than 50% of the previous green body. |
| Piercing Pattern | Bullish Signal (Market Bottom) | The last candle opens sharply under the low of the previous red candle but then closes above 50% of the red candle's body. |
| Evening Star | Bearish Signal (Market Top) | A three-candle pattern: Large green body, followed by a small body (star), followed by a red body that closes well into the large green candle body. |
| Morning Star | Bullish Signal (Market Bottom) | A three-candle pattern (opposite of Evening Star): Large red body, followed by a small body (star), followed by a green body that closes well into the large red candle body. |
| Shooting Star | Bearish Signal (Market Top) | A small red body with a very long upper shadow (2-3 times the body) and a very small or no lower shadow. |
| Hammer | Bullish Signal (Market Bottom) | A small green body with a very long lower shadow (2-3 times the body) and a very small or no upper shadow. |
Note: These patterns require further confirmation, often from the following candle.
Detailed Summary
This content provides an introduction to fundamental formations used in technical analysis, categorizing them into Bar Formations (OHLC charts) and Japanese Candlestick Formations. Bar charts track the Open, High, Low, and Close (OHLC) prices, featuring various reversal signals like Key Reversals, Two-Bar Reversals, Inside/Outside Days, and Spike Reversals. Candlestick charts, originating with 16th-century Japanese rice traders, are leading indicators based on the candle's body (open/close) and shadows (high/low). Key elements of candlestick analysis include the body's color (green is bullish, red is bearish) and size, and the length of the shadows. The text also details specific patterns indicating market indecision (Doji types) and popular reversal signals like Engulfing patterns, Dark Cloud Cover/Piercing Patterns, and Star formations (Evening/Morning Stars).
Key Takeaways
- Bar Formations (OHLC Charts): Incorporate Open, High, Low, and Close prices, allowing traders to identify patterns by comparing consecutive bars.
- Key Bar Reversals: Occur when prices surge to a new extreme (high or low) but then reverse sharply to close on the opposite side relative to the previous bar's close.
- Outside Day Patterns: Considered stronger reversal signals than Key Reversals; the price range completely engulfs the previous bar's range.
- Candlestick Origins: Japanese candlesticks originated in 16th-century Japan and are used as leading indicators for potential price changes.
- Candlestick Components: Include the Body (difference between open and close) and Upper/Lower Shadows (showing the high and low range).
- Color and Size: Green candles are bullish; Red candles are bearish. Large bodies indicate dominance by buyers or sellers, while small bodies signify consolidation or indecision.
- Doji Candlesticks: Characterized by having an open and close that are nearly identical (no body), signaling indecision (e.g., Classic, Long Legged, Dragonfly, Gravestone Dojis).
- Popular Reversal Candles: Key patterns include Engulfing (Bullish/Bearish), Dark Cloud Cover (Bearish), Piercing Pattern (Bullish), Evening/Morning Star (3-candle reversals), Shooting Star (Bearish), and Hammer (Bullish).
- Confirmation: Most reversal patterns (both bar and candlestick) require further confirmation from the following candle.