In this article, we will discuss
- What are Candlestick Patterns?
- Best Candlestick Patterns for Day Trading and Options Trading
- Conclusion
Candlestick charts help traders analyse the price action of assets and make informed trading decisions. Understanding and recognising key candlestick patterns is crucial for day traders and options traders who rely on short-term price movements.
However, spotting candlestick patterns requires access to a comprehensive and robust charting tool, such as the one offered by TradingView. On the Samco Trading App, you can get complete access to TradingView charts with the flexibility to customise them according to your requirements. With TradingView charts on Samco Securities, you can easily identify trading candlestick patterns and make quick and effective decisions accordingly.
That being said, if you are someone who is not experienced enough to identify stock candlestick patterns, this comprehensive guide can help you. In this article, we will discuss a few patterns best suited for intraday trading and options trading.
What are Candlestick Patterns?
Candlesticks are visual representations of an asset’s price action over a specific time frame. Each candlestick shows the opening price, closing price, highest price, and lowest price for the chosen time frame.
Candlestick patterns are unique arrangements of candlesticks on a price chart. The appearance of these patterns on a chart can provide valuable information on buying and selling pressures and insights into potential price trend continuations. As a trader, you can leverage this information to make effective and profitable trading decisions.
Best Candlestick Patterns for Day Trading and Options Trading
Candlestick chart patterns range from simple formations involving one or two candles to more complex setups involving three to even six candles. Each pattern provides different insights into market sentiment, potential reversals, or continuation of trends. Let us explore some of the most effective candlestick patterns that can be useful during day trading and options trading.
1. Doji
Nature: A neutral single candlestick pattern that indicates indecision in the market.
Visual appearance: The pattern consists of a single candlestick with either a very small body or a non-existent body. This happens due to the opening and closing prices being very close to each other or exactly the same. While the body is either small or nonexistent, the upper and lower wicks of the doji tend to be long.
Interpretation: The doji suggests a state of equilibrium between buyers and sellers. Depending on the previous trend, the pattern could either signal a potential trend reversal or a continuation of the existing trend.
2. Hammer
Nature: A bullish reversal candlestick pattern that usually appears at the bottom of a downward trend.
Visual appearance: Among the most common single candlestick patterns, the hammer features a small body (either green or red) at the top of the trading range, with a long lower wick at least twice the length of the body. The upper wick is usually nonexistent; however, there are versions of the pattern where it has a small upper wick.
Interpretation: The hammer pattern suggests that despite significant selling pressure during the session, buyers were able to push the price back up. The pattern could indicate a potential bullish reversal, particularly if it appears at the end of a downtrend.
3. Hanging Man
Nature: A bearish reversal candlestick pattern typically found at the top of an uptrend.
Visual appearance: The pattern is visually identical to the hammer with a short green or red body on the top and a long lower wick that is twice as long as the body. Depending on the market conditions, it can have either a small or nonexistent upper wick.
Interpretation: The long lower wick of the hanging man suggests an increase in selling pressure despite buyers pushing the price back up. When the pattern appears at the top of an uptrend, it could signal a possible shift in the market direction from bullish to bearish.
4. Shooting Star
Nature: A bearish reversal candlestick pattern that usually appears at the top of an uptrend.
Visual appearance: Another one of the single candlestick chart patterns, the shooting star features a small green or red body at the bottom of the trading range. The upper wick is at least twice the length of the body, with a small or nonexistent lower shadow.
Interpretation: The long upper shadow of the pattern indicates that despite a strong opening and further gains during the session, the sellers were able to push the price back down near the end of the day. This shift in momentum could create a shift in the market direction from bullish to bearish.
5. Piercing Line
Nature: A bullish reversal pattern that is typically found at the bottom of a bearish trend.
Visual appearance: The piercing line is a two-candlestick pattern. The first candle is a long red candle, whereas the second is a long green candle. The second candle opens below the lowest point of the first candle but closes above the midpoint of the first candle’s body.
Interpretation: Despite a gap-down opening, which is evidenced by the second candle opening lower than the first, the buyers were able to push the price up significantly, leading to the second candle closing above the midpoint of the previous bearish candle. This indicates strong buying pressure and often signals a potential trend reversal from bearish to bullish.
6. Dark Cloud Cover
Nature: A bearish reversal pattern that usually appears at the top of an uptrend.
Visual appearance: The dark cloud cover is also a two-candlestick pattern, with the first candle being a long green candle and the second being a long red candle. The second candle opens above the highest point of the first candle but closes below the midpoint of the first candle’s body.
Interpretation: Since the sellers effectively pushed the price down despite a gap-up opening, leading to the second candle closing below the midpoint of the previous bullish candle, the dark cloud cover indicates a shift from bullish to bearish sentiment.
7. Bullish Engulfing
Nature: A bullish reversal candlestick chart pattern that appears at the bottom of a downtrend.
Visual appearance: The bullish engulfing pattern is one of the most easily recognisable two-candlestick patterns. It features a small red candle, after which comes a sizable green or bullish candle that completely covers the body of the first candle.
Interpretation: The second candle in the pattern opens lower than the previous closing point of the first candle. Despite this, the buyers take complete control and push the price up to close higher than the opening point of the first candle. This indicates a strong shift from bearish to bullish sentiment.
8. Bearish Engulfing
Nature: A bearish reversal candlestick chart pattern that appears at the top of an uptrend.
Visual appearance: An inverse of the bullish engulfing pattern, the bearish engulfing pattern features a small bullish candle followed by a large bearish (or red) candle that completely covers the body of the first candle.
Interpretation: In this pattern, the second candle opens higher than the previous closing point. However, the sellers step in and take control, which pushes the price down to close lower than the previous opening point. Such overwhelming selling pressure often signifies a strong shift from bullish to bearish sentiment.
9. Bullish Harami
Nature: A bullish reversal candlestick pattern that is found at the end of a bearish trend.
Visual appearance: Another one of the most easily identifiable trading candlestick patterns, the bullish harami consists of a large red candle followed by a much smaller green candle. The green candle is completely contained within the body of the red candle.
Interpretation: The appearance of the smaller green candle appearing within the boundaries of the larger red candle suggests a slowdown in selling pressure. Although not as strong a signal as the bullish engulfing pattern, the bullish harami could indicate a potential bullish reversal.
10. Bearish Harami
Nature: A bearish reversal candlestick pattern that is found at the top of an uptrend.
Visual appearance: The pattern is the inverse of the bullish harami and features a large green candle followed by a smaller red candle. The second candle is completely contained within the body of the first candle.
Interpretation: The smaller red candle appearing contained within the body of the larger green candle suggests a slowdown in buying pressure. This could potentially indicate a shift from bullish to bearish market sentiment.
11. Morning Star
Nature: A bullish reversal candlestick pattern that appears at the end of a downtrend.
Visual appearance: The morning star is one of the many three-candlestick patterns recognised by traders. It features a long red candle, followed by a small bullish candle with a gap-down opening. The third candle is a large green candle with a gap-up opening that closes above the midpoint of the first candle.
Interpretation: The pattern suggests a strong shift from bearish to bullish sentiment. The small middle candle indicates the entry of buyers, whereas the third candle essentially confirms the reversal. The morning star is considered a reliable bullish reversal signal.
12. Evening Star
Nature: A bearish reversal candlestick pattern that appears at the end of an uptrend.
Visual appearance: The pattern consists of a long red candle, followed by a small red candle with a gap-up opening. The third candle is a large red candle with a gap-down opening that closes below the midpoint of the first candle.
Interpretation: The evening star is a reliable reversal signal that indicates a strong shift from bullish to bearish sentiment. The small middle candle suggests the entry of buyers, while the third candle confirms the reversal by closing below the midpoint of the first candle.
Conclusion
Mastering candlestick trading requires you to spot the various patterns and make accurate inferences. Whether you plan on trading intraday or in options contracts, these patterns can be valuable in identifying potential entry and exit points.
However, it is important to remember that none of the stock candlestick patterns are foolproof. In fact, when trading candlestick patterns, you must use other technical analysis tools. This will help you protect your positions from losses due to failed signals.
That said, if you plan to use an option candlestick strategy, Samco Securities’ Options B.R.O. can help you build, research, and optimise the right strategy for your objectives and risk profile. Options B.R.O. combined with the powerful TradingView Charts can help you become a successful trader.
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