Candlestick Patterns: Essentials of Chart Reading
Introduction
Candlesticks are one of the key tools of technical analysis, widely utilized by traders and investors around the globe. This visualization method allows for a quick assessment of market sentiment, the strength of buyers and sellers, and identification of entry and exit points. The candlestick chart is based on the model of Japanese traders from the 18th century, but today this technique has undergone significant enhancements and has become an integral part of modern trading platforms.
Candlesticks provide a clear representation of market forces within a specified timeframe. Each candlestick records the opening, high, low, and closing prices, allowing for an immediate understanding of which side—buyers or sellers—dominates. This tool, rooted in the mature trading practice of the 18th century, remains fundamental in technical analysis.
The modern market sets high standards for speed and quality of decision-making, and candlestick analysis meets these requirements by providing concise and accurate information about price events.
1. Structure and Fundamentals of a Candlestick
1.1 Elements of a Candlestick
A candlestick consists of a body and shadows. The body is formed by the opening and closing prices; its length reflects the strength of the price movement. The shadows (upper and lower) indicate how far the price has moved beyond the body within the selected timeframe.
The body of the candlestick indicates the advantage with which the period concluded: a long body signifies a clear advantage for one side, while a short body suggests balance or uncertainty.
1.2 Color and Implications
The color of the body signals the direction: a green (or white) candle indicates that the closing price is above the opening price—bullish control. A red (or black) candle conveys the opposite, confirming selling pressure. The color scheme on platforms may differ, but the meaning remains constant.
Additional color choices: some traders use blue and orange candles for enhanced visual clarity.
1.3 Timeframes
Candlesticks can represent any duration: one minute, one hour, one day. Shorter intervals provide precise but noisy signals, while longer ones smooth out fluctuations, helping to identify the primary trend. For instance, an intraday trader may use 5-minute charts for entries and hourly charts for signal filtering.
For medium-term strategies, 4-hour candles are popular, while daily and weekly candles are preferred for long-term investments.
2. Basic Types of Candlesticks
2.1 Bullish and Bearish Candles
A bullish candle indicates buyer strength, while a bearish candle shows selling pressure. Analyzing their predominance helps to determine the current price direction. The occurrence of large bullish and bearish candles in alternation creates market volatility.
2.2 Doji
A doji has an extremely small body, indicating equilibrium between buyers and sellers and a potential mood reversal. Dojis are most effective at support/resistance levels and following sharp price movements.
2.3 Hammer and Inverted Hammer
A hammer appears at the bottom of a downward trend and looks like a small body with a long lower shadow. It indicates a buying response to the decline. An inverted hammer is formed with a long upper shadow and signals a possible end to the upward movement.
Both patterns require confirmation: the next candle must close above (for the hammer) or below (for the inverted hammer) the body of the pattern.
2.4 Pin Bar
A pin bar is a variation of the hammer with an even more pronounced shadow, often formed at key levels. Its long shadow demonstrates a sharp rebound, while the short body signifies confidence in the reversal.
Trading systems may place pending orders for entry after the formation of a pin bar with limited risk.
3. Key Reversal Patterns
3.1 Engulfing Pattern
A bullish engulfing pattern consists of a bearish candle fully engulfed by a subsequent bullish one. This is one of the strongest reversal signals. A bearish engulfing pattern forms a mirror image at the peak of a trend.
The pattern is strengthened by volume: if the second engulfing candle is accompanied by a volume increase of 20-30%, the signal becomes more credible.
3.2 Morning and Evening Star
A morning star appears at the bottom of a trend: the first candle is bearish, the second is a doji, and the third is bullish. An evening star is similarly formed at the top. Volume and closure of the third candle above/below the midpoint of the first serve as additional confirmation.
3.3 Harami
The harami pattern consists of a small candle within the body of the previous one. A bullish harami arises after a strong decline, where a small bullish candle indicates a slowdown in selling. A bearish harami is a small bearish candle within the body of the previous bullish candle.
This pattern often precedes a larger structural correction.
4. Continuation Patterns
4.1 Three White Soldiers and Three Black Crows
The three white soldiers pattern consists of three consecutive bullish candles closing above the previous one, demonstrating the power of buyers. The three black crows is an analogous bearish pattern. The effectiveness of these patterns increases when they break key levels.
4.2 Candlestick Flags and Pennants
Flags and pennants are consolidation formations following a sharp impulse. The flag resembles a parallelogram, while the pennant resembles a triangle. A breakout from these formations confirms the continuation of the trend and is often accompanied by an increase in volume.
4.3 Algorithmic Consolidations
Modern trading robots recognize flags and pennants, automatically placing orders for breakouts and managing risks through stop-losses within the formation.
5. Context and Signal Confirmation
5.1 Trading Volume
An increase in volume confirms the strength of the signal. For reversal patterns, the volume of the second candle should exceed the average over the last 10 periods by at least 20%.
Trading systems often utilize volume histograms and VWAP to assess the involvement of major players.
5.2 Support and Resistance Levels
Candlestick signals at key levels are more reliable. Local minima and maxima, round numbers (100, 150, 200), as well as trendlines reinforce reversal patterns.
5.3 Technical Indicators
RSI allows identification of overbought and oversold zones, confirming candlestick signals. MACD reveals divergences indicating trend weakness. Moving averages (SMA, EMA) filter noise and help determine the main trend direction.
The combination of candlesticks and indicators provides a comprehensive approach to analysis: entry based on a candlestick pattern confirmed by an indicator.
6. Application in Trading Strategies
6.1 Multi-Timeframe Analysis
Combining the analysis of higher and lower timeframes helps avoid noise. For instance, determining the direction on a daily chart, one can seek entry signals on an hourly or 15-minute chart.
Trading plans include signal filtering: avoiding counter-trend candlestick patterns without confirmation from a higher timeframe.
6.2 Algorithmic Strategies
Scripts and advisors automatically detect candlestick patterns and integrate volume and indicator filters. They can place orders, manage stop-losses, and shift positions to breakeven.
Successful robots analyze historical patterns and adapt parameters to current market conditions, enhancing profitability.
6.3 Pattern Combinations
The combination of several candlestick patterns increases the reliability of signals. For example, hammer + engulfing + RSI divergence yields a stronger reversal than each pattern individually.
7. Risk Management and Psychology
7.1 Stop-Loss and Take-Profit
Stop-loss should be set 1-2 points beyond the extreme of the candlestick pattern. Take-profit—at the next support/resistance zone or at a risk-reward ratio of 1:2 or higher.
Traders use trailing stops upon the closure of lower timeframes to secure profits and protect capital.
7.2 Emotional Control
Emotions are a trader's greatest enemy. Strict adherence to a trading plan helps avoid premature closures of profitable trades and holding onto losing positions out of fear.
Maintaining a trading journal is helpful for analyzing mistakes and successful trades to develop discipline.
7.3 Psychological Traps
Overtrading, fear of missing out, and greed hinder adherence to rules. It is advisable to set limits on the number of trades per day and ensure that the maximum risk on one position does not exceed 2% of the deposit.
8. Advanced Candlestick Patterns and Cases
8.1 "Three Stars" Pattern
The "Three Stars" pattern is rare but accurate, consisting of three candles: an impulse candle, a doji star confirming it. It works effectively on higher timeframes and requires volume for reliability.
8.2 Cases and Examples
EUR/USD, September 11, 2025: A bullish engulfing pattern formed on the hourly chart at the level of 1.0850. Volume increased by 50%, and RSI exited the oversold zone. The price rose by 60 pips within three hours.
Sberbank, daily chart: On August 10, 2025, with a downward trend, the price formed a hammer at the trendline at the mark of 290 ₽. The next candle closed above, and the stock increased by 3% within two days.
Gazprom Neft shares: A combination of harami and MACD divergence signaled a bullish reversal, leading to a 5% increase over the week.
9. Conclusion
Candlesticks are a versatile tool for technical analysis, providing insights into market psychology and identifying key reversal and continuation points. Their combination with volumes, support/resistance levels, and indicators creates a robust foundation for profitable strategies.
Continuous practice in reading candlestick charts, maintaining a trading journal, participating in professional communities, and adapting methods to changing market conditions will help traders and investors enhance their effectiveness and achieve stable results.
Invest in your education, test new patterns, and remember to manage risks—these are the keys to success in the world of financial markets.
