How to read candlestick charts like a pro?

This was the exact reaction I had when I understood the power of reading candlestick charts and how reading them helped me become the boss of my own finances.

By the end of this post you will have a firm understanding on everything you need to know about candlestick charts as well as how to read candlestick charts like a pro. This guide will serve you as your personal reference when it comes to understanding candlestick charts; so bookmark this page right now.

Let’s begin!

Trading is a game, a game of war. It is the war between buyers and sellers, where Candlestick charts are scoreboards which indicate who is winning.

Reading candlestick charts and finding their patterns are as easy as learning how to drive. We might feel confused at first, but soon after the initial phase it becomes the easiest thing to do.

Candlestick charts are thought to have been invented by a Japanese named Homma. Since they were developed by the Japanese they are also known as “Japanese Candlestick charts”, and they were later introduced to the western world by “Steve Nison”.

To better understand how to read candlestick charts, let’s create a scenario.

Imagine you are farmer who lives in the 1800s. You own a rice farm and you have a load of rice for sale.

Let’s say you have 5000 kg of rice, and you transport it to a market which is 145 kilometers away. However, at the time of your arrival the market is already closed.

The closing price of rice was 100 rupees per kg. Bearing this in mind, you start looking for a direct buyer.

Let’s now imagine that you have found a buyer who is willing to pay you 97 rupees per kg.

You: “I see the market’s closing price was at 100 rupees per kg. Taking your offer means that I would lose 3 rupees per kg!”.

Buyer: “Sir, today the opening price was 80 rupees per kg. With my offer of 97 rupees, you will make a profit of profit 17 rupees per kg.”.

At first selling for 97 seemed like losing trade. However, when you heard about the opening price of 80, the 97 rupees deal seems like a profitable one.

Now as you are strongly considering to sell all your rice to the buyer, a friend suddenly comes to you. He gives you some additional information: “Raj, today the price went as high as 120 rupees per kg “.

Now again you are in a bit of a tough spot! 97 might not sound like a good deal when you compare it with 120. This is all starting to make you feel a bit nervous.

Buyer : Sir, 120 was today’s high, but if you look at today’s low it was 65 rupees per kg.

Now once again you think that 97 rupees per kg is good deal and you decide to take his offer.

You see what happened there? If we only look at the market’s closing or opening price we might not get a good idea of what our product is worth. However, if we consider all the data including highs and lows then we can make better decisions!

And that, my friend, is exactly what Candlestick charts provide us. Each candlestick represents a single timeframe. So in a 60-minute chart each candlestick provides us the full price movement of an hour.

No other chart provides this information as well as a Candlestick chart, which is why this kind of chart is the most commonly used on the trading platforms.

Basics of Candlestick Charts:

Every candlestick has “Open” “Close” “High” and “Low”

Open: Open represents the opening price of the timeframe, which the candlestick represents.

Close: Close represents the closing price of the timeframe.

High: The highest price that was recorded during the timeframe.

Low: The Lowest price that was recorded during the timeframe.

Green Candlestick: When a candlestick green then the bulls (buyers) controlled the market in that given timeframe and tried to capitalize on that by forcing the price as high as possible.

The green candle forms when the “Close” price was higher than the “Open” price. It is also known as “Hollow Candlestick”.

The buying pressure is high in such candles. Some trading platform shows white color instead of Green to represent this candlestick.

Red Candlestick: When the candlestick’s body is red then the bears(Sellers) controlled the market forcing the price down.

Red candlesticks are formed when the closing price is below the opening price. It is also known as a “Filled Candlestick”.

The selling pressure is high in such candles. Some trading platform uses black color to indicate kind of candlestick.

Upper shadow and Lower shadow: In bullish candlesticks, a thin line between “High” and “Close” is called the upper shadow, whereas a thin line between “Open” and “Low” is called the lower shadow.

Similarly in bearish candlesticks the “Upper shadow” is a thin line between “Open” and “High” and the “Lower Shadow” is between “Close” and “Low”

Each candlestick has different kinds of bodies and shadows which form interesting formations or patterns that sometimes might provide us with information about where the price will go in the future.

Long Vs Short Bodies

Long bodies indicates a domination of the market by either the bulls or the bears; if the candlestick is green then the buyers controlled the price meaning that there was a strong buying pressure in that timeframe. However, if the candlestick is long and red, it indicates that there was significant selling pressure at that timeframe.

Short bodies indicate neither party really dominated the market, but that one party had slightly more influence than the other.

The green long candle indicates that buyers were in control of the price and the closing price was way above opening price. A short green candle indicates that buyers were able to marginally control the price.

Long red candles indicate that the sellers were able to dominate the buyers and close the price way below its opening price. Short red candles indicate that sellers were able to marginally control the price.

What do they mean?

Long green candle :

If the overall market trend is bullish and a long green candle appears, then it can be assumed that the market is in an aggressive bullish mode, whereas if the market is in a bearish trend; i.e. constantly declining, and if a long green candle appears then a reversal of the current trend can be expected (or that the price action hit the “support and resistance” level)

Long red bearish candle:

If the price action is constantly declining and if a long red bearish candle appear then you can expect that the trend will continue in its current direction. However, if a long red bearish candle appears when the price is currently in a bullish trend (the price is going up) then a reversal of the current trend might be expected (or that the price action has hit the resistance level)

Let’s dive into some candlestick patterns you might see in the market and how to use them to your advantage when trading.

Various Candlestick chart patterns,

Before we start, remember that all the basic candlestick patterns are formed by looking at the candlestick’s shadows and body.

It is important to know that we should not solemnly rely on these patterns to make our trading decisions. In future articles I will go much deeper into advanced patterns which have high probability of right trade.

Long vs Short Shadows

Long shadows indicate that the price during the timeframe extended far beyond the closing/opening price. Short candlesticks indicate that the price never moved far away from the opening/closing price.

This type of candlestick indicates a possible reversal of the current trend.

A candlestick with a long upper shadow and a short lower shadow indicates that the buying pressure was high during the session. In other words the buyers dominated the overall session, until the sellers arrived and pushed the price down again.

Candlesticks with short upper shadows and long lower shadows indicate that the sellers dominated the overall session. However before the end of the session the buyers were able to force the price up.

Spinning tops candlestick

Candlestick with long upper and lower shadows with small bodies are called as Spinning tops. This type of candlestick singal the indecision between both buyers and sellers.

In these types of tops it does not really matter if the candlestick is bullish or bearish.

It is commonly thought that, if spinning tops are formed during a bullish trend then it is possible that fewer buyers will participate in the next session’s trading. Often it is also normal to see a reversal of the current trend when one of these candlesticks appear.

Similarly if spinning tops are formed during a down bearish trend then it is likely that fewer sellers will participate in the upcoming session, which again might imply a reversal of the current trend.

Let’s test this assumption in real world example,

Pause reading and go to your trading terminal and open up your own charts. Then go ahead and see if you can spot some “Spinning tops”. You can pick any timeframe that you desire.

Here are my findings,

The above share is “Tata motors”, and if you take a look at the part I have marked, you will notice that the trend was bullish just before the two spinning tops appeared, and after they appeared the trend reversed.

Let’s look at another example of “Yes bank” where the spinning tops occurred only to see that the trend continued.

Here, just after the spinning top appeared the price moved downwards but the buying pressure was so high that it did not affect the overall trend.

It is important to use other technical indicators like stochastic, RSI etc to only enter in high probability trade.

As we move forward in the series we will learn more about other indicators and tools which will enhance your probability of making good investments.

Marubozu Candlestick:

Marubozu, in this candlestick there is no shadow. This means that if the candlestick is bullish, the highest trading price over that session was equal to the closing price, and that the lowest price was equal to the opening price.

In a bearish candlestick the opening price is equal to the highest price and the closing marks the lowest price.

Hold on for a few seconds. Go to your trading terminal and start looking for these types of candlestick formations. These types of candlesticks are actually frequently present in the market. (Candlesticks with very very short shadows also fall under this category)

I will now give you an example from the real market:

Above is the Axis Bank’s share in Nifty 50. Here we note that the overall trend is bullish and that two green “Marubozu” candles appear. After these candlesticks appeared the bullish trend continued, which is typically what happens when you see this kind of candlestick!

DOJI Candlesticks

This is my favorite type of candlesticks. Doji is both plural and singular and they form when a candlestick’s opening and closing prices are nearly or exactly the same.

Just like spinning tops, Doji indicate indecision among buyers and sellers. If Doji are formed during a bullish trend then a reversal of the current trend might happen, as buyers failed to force the price higher. Doji appearing during a bearish trend suggest that the trend might reverse.

There are four types of Doji,

1. Long-legged doji
2. Dragon fly Doji
3. Gravestone Doji
4. Four Price Doji

Long Legged doji:

This kind of doji has long upper and lower shadows, and the opening and closing prices remain virtually the same.

This type of Doji suggests that both buyers and sellers were at fully fledged war with no “winner” in the end.

Dragonfly Doji:

This kind of Doji forms when the opening and the closing prices are equal to the highest price. Here the lowest price extends a lot to create longer lower shadows.

Sellers did try to take price down, however in the end the buyers pushed the price towards the opening price.

Despite the high not being exactly the same as the close, it still qualifies as a Dragonfly doji. (The requirement is that the lower shadow’s length is negligible compared with the upper shadow)

Gravestone Doji:

This is the exact opposite of the Dragonfly candle. In this candlestick the Open and the Close are equal (or almost equal) to Low, however the High of the session extends far and gives us a long upper shadow.

When you see this kind of candlestick it means that the buyers were pushing the price up during the session. In the end however, the sellers still managed to bring the price down before the session ended.

Four price Doji

In this candlestick the Open, High, Low and Close are almost at the same price level or very near each other.

This kind of Doji indicates that neither side had any strength in forcing the the price in any direction.

This kind of Doji is rare to see in the market, but they do occur every now and then.

Can you find one?

Share with me on comments.

That’s it for now. I will go into more candlestick strategies in the upcoming articles. Moreover, I will be including the very famous morning star candlestick pattern, hammer and hanging man! So stay tuned for that!

Check out quiz challenge  “How well can you read candlestick charts?”