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Candlestick chart analysis

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At first glance, candlestick charts seem complicated, so novice traders prefer to rely on their intuition 🔮. This might work during the active growth of cryptocurrencies, but it is still better to understand the market signals and how to use them correctly.

In this article we’ll tell you what a candlestick chart is and how to read it. If you have never heard of crows, soldiers, crosses and spinning tops, this is exactly for you.

Candlestick chart and how it works

A candlestick chart is a type of financial chart. It shows how the price of an asset changed over a certain time frame. Such a chart consists of candlesticks, each of which represents the same period of time. The period can be chosen: from a couple of minutes or even seconds to several years.

Candlestick charts appeared back in the 18th century. It is believed that they were invented by a Japanese Munehisa Homma. With the help of candlesticks he depicted the dynamics of changes in the price of rice. Having high abilities in commerce, Homma earned a huge fortune and was even invited to the position of financial advisor to the government.

Each candlestick consists of four basic elements, reflecting the change in price of an asset for the selected time period:

Open – the first registered price at which the asset starts trading.

⏭️ Maximum or high – the highest registered price.

⏮️ Minimum or low – the lowest registered price.

⏹️ Close – the last registered price at which trading ends.

The distance between the opening and closing is called the real body, the distance between the body and the high/low is called the shadow or wick. Everything lies between high and low is the range of the candle.

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The candlesticks show the resistance between the bulls and the bears at the selected time interval.

🐂 Bulls are customers. They are buying up assets because they are sure about the price growth.

🐻 Bears are sellers. They sell assets when they are waiting for a price collapse.

Green candles (bullish) means that the closing price of an asset was higher than the opening price, so the price has risen. Red (bearish) candles means that the price dropped down and closed below the open.

Many traders believe that a candlestick chart is easier to read than bar charts or line charts, even though all of these tools show the same information. The point is that candlesticks show the price movements clearer and more complete.

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However, the candlesticks do not contain all the information needed for a complex analysis: for example, the wicks show the maximum and minimum price of the period, but they do not show the sequence of changes. This problem is solved by the fact that the timeframes can be changed by zooming in and out.

Here is the annual chart of bitcoin (one candle is formed throughout the year):

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This is bitcoin monthly chart (every candle formed in one month):

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Weekly bitcoin chart:

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Bitcoin daily chart:

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In addition to the necessary information, the classical candlestick chart often shows market noise, i.e. something that you do not need to know and that can be confusing. This is especially noticeable on charts with small time frames such as a second, a minute. This is why there are Heikin-Ashi candlesticks.

Heikin-Ashi (Japanese for «average pace») are candlestick charts constructed according to a modified formula that uses data on the average price. Such charts smooth out price movements and filter out the market noise, and thus provide a clearer picture of market trends. This allows more accurate prediction of possible reversal zones.

As in the case of classical Japanese candlesticks, green Heikin-Ashi indicate an uptrend, red ones indicate downtrend.

This is how the bitcoin chart looks like with Heikin-Ashi candlesticks and one day timeframe:

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And here is the same chart constructed with regular Japanese candles:

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Most often, traders use the Heikin-Ashi as an additional tool along with a classic candlestick chart. This method has disadvantages: because the price is averaged, candles take a long time to form, and price gaps (when the opening price of the next period differs significantly from the closing price of the previous one) are not displayed on this chart at all.

Candlestick patterns

Patterns are a way of looking at combinations of candles. They help predict the price movements. There are bearish reversal patterns, bullish reversal patterns, continuation patterns and price gaps.

Bearish 🐻 reversal patterns appear at the end of an uptrend and indicate that there will soon be more bears (sellers), which means the price will fall.

Bullish 🐂 reversal patterns, on the contrary, appear at the end of a downtrend and promise that soon there will be more bulls (buyers), that means the price of the asset will rise.

Continuation ➡️ patterns confirm that the bullish or bearish trend will continue.

Also, when analyzing candle charts, it is necessary to pay attention to the price gaps 🕳️mentioned above, which indicate that the price will sooner or later reach the level that it passed. 

Patterns should not be considered as a signal to buy or sell.  They just allow you to look at the market from another perspective and see potential opportunities. Let's explore the most popular patterns.

Bearish 🐻 reversal patterns

Hanging man 😵

Hanging man is a green or red candle with a small body and a long bottom wick. The lower wick indicates that there were large sales volumes. After a long uptrend, the pattern can warn that there will soon be more sellers and the rate will fall.

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Shooting star 💫

Shooting star is a candle with a small body, a long upper and a small (or no) lower wick. A shooting star indicates that the price has reached a local high, there became more sellers, and they have started to drop the price. Sometimes traders wait for the next few candles to appear to confirm the pattern.

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Three black crows 🪶

Three black crows are three following red candles, and each of them opens inside the body of the previous one and closes below the minimum of the previous one. Theoretically, candlesticks should not have long wicks, which indicates a constant selling pressure that leads to a decrease in price. Candle size and wick length can also be used to analyze the probability of a reversal or consolidation.

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Bearish harami 👶

Bearish harami (‘harami’ is Japanese for ‘pregnant’) consists of two candles: the long green one is followed by a small red one, which is entirely in its body. The pattern can be formed for two days or more. A bearish harami appears at the end of an uptrend and indicates that the strength of the buyers may decline further, and therefore the price will fall.

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Dark cloud cover 🌫️

Dark cloud cover consists of a green candle and a red one, which opens above the closing price of the previous one and closes below its midpoint. Dark cloud cover is associated with large volumes of selling: this means that the price may continue to drop down. Some traders prefer to wait for a second red candle to confirm the pattern.

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Continuation ➡️ patterns

Falling ⬇️ and rising ⬆️ three methods

Falling three methods pattern unfolds in a downtrend: following the big red candle, three green candles with small bodies confirm that the dropping continues. Ideally, they should not go beyond the range of the previous candle.

The following red candle with a large body confirms the pattern. It indicates that the sellers control the market again, which means that the price is dropping.

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Rising three methods pattern means the same but in reverse. It indicates a continuation of an uptrend, that means there are more buyers, so the price is rising and will continue to rise.

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Doji ❌

Doji (Japanese for ‘mistake’) is formed when the open and close of a candle coincide. The price can move above or below the open, but eventually it closes on the opening level. The interpretation of such candles depends on the context, so there are three types of Doji.

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🦵Long-legged Doji or rickshaw is a candle that indicates indecisiveness of buyers and sellers. It can be either bullish or bearish. Both wicks are long, and close is in the middle of the candle.

🐉 Dragonfly Doji is a bullish or bearish candle (depending on the context). It has a long bottom wick, and the close is near the high.

🪦 Gravestone Doji is a bearish candle, signaling a possible reversal. It has a long upper wick, the close is near the high.

Doji implies almost absolute coincidence of the open and close of the candle. If they do not coincide, but are very close to each other, it is a spinning top pattern. Because of the high volatility of cryptocurrencies, it appears more often than Doji and is interpreted the same way.

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Bullish 🐂 reversal patterns

Hammer and inverted hammer 🔨

Hammer is a candle with a long bottom wick that appears at the lowest point of a downtrend. The wick must be at least twice as big as the body. This is the bullish equivalent of a shooting star.

This pattern means that sellers' pressure was high, but bulls were pushing the rate up by buying an asset at a price close to the open. The hammer can be red or green, green indicates a stronger bullish reaction.

Inverted hammer is similar to a regular hammer, but it has a longer shadow which is above the body of the candle, not below it. The upper shadow shows that the price stopped falling and stopped near the opening level of the candle.

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Three white soldiers 🪖

Three white soldiers are three black crows in reverse. The pattern consists of three green candles, each of which opens inside the body of the previous one and closes above the maximum of the previous one. Ideally, these candles should not have long wicks below.

Soldiers indicate that there are a lot of buyers right now, and the price is going up because of it. The size of the candles, the length and location of the wicks can help predict further continuation or reversal.

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Bullish harami 🐥

Bullish harami cross is a long red candle followed by a green or red Doji candle or just a candle with a very small body. This pattern appears at the end of a downtrend and indicates that the selling period may be coming to an end and the crypto price will rise soon.

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Piercing line 📈

Piercing line consists of one red and one green candle, and is the bullish analogue of a dark cloud cover. The piercing line is associated with active buyers, which indicates the price may continue to grow.

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Any trader needs to know how to read candlestick charts. Patterns are tools that allow you to look at the cryptocurrency market from an unusual angle. However, it is important to remember that they are based on general observations, not on scientific principles. Patterns are good at visualizing the confrontation between the buyers and sellers, the two forces that drive the financial markets.

🤔 Do you have any questions about candlestick chart analysis? Subscribe to our social networks and keep in touch with itez!

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This material is not an investment recommendation. The financial and other transactions mentioned in the article are not a guide to action. Itez is not responsible for possible risks. The user should independently conduct an analysis on the basis of which it will be possible to draw conclusions and make decisions about conducting any operations with cryptocurrency and / or tokens.

Maria Kachura
Maria Kachura

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