Types of Charts
Let’s take a look at the three most popular types of charts:
1. Line chart
2. Bar chart
Line Charts
A simple line chart draws a line from one closing price to the next closing price. When strung together with a line, we can see the general price movement of a currency pair over a period of time.
Bar Charts
A bar chart also shows closing prices, while simultaneously showing opening prices, as well as the highs and lows. The bottom of the vertical bar indicates the lowest traded price for that time period, while the top of the bar indicates the highest price paid. So, the vertical bar indicates the currency pair’s trading range as a whole. The horizontal hash on the left side of the bar is the opening price, and the right-side horizontal hash is the closing price.
Bar charts are also called “OHLC” charts, because they indicate the Open, the High, the Low, and the Close for that particular currency. Here’s an example of a price bar:
Open: The little horizontal line on the left is the opening price
High: The top of the vertical line defines the highest price of the time period
Low: The bottom of the vertical line defines the lowest price of the time period
Close: The little horizontal line on the right is the closing price
NOTE: Throughout our lessons, you will see the word “bar” in reference to a single piece of data on a chart. A bar is simply one segment of time, whether it is one day, one week, or one hour. When you see the word ‘bar’ going forward, be sure to understand it.
Candle Stick Chart
Candlestick charts show the same information as a bar chart, but in a prettier graphic format. Candlestick bars still indicate the high-to-low range with a vertical line.
However, in candlestick charting, the larger block in the middle indicates the range between the opening and closing prices. Traditionally, if the block in the middle is filled or colored in, then the currency closed lower than it opened.
In the example below, the ‘filled colour’ is black. For our ‘filled’ blocks, the top of the block is the opening price, and the bottom of the block is the closing price. If the closing price is higher than the opening price, then the block in the middle will be “white” or hollow or unfilled.
We don’t like to use the traditional black and white candlesticks. We feel it’s easier to look at a chart that’s colored. A color television is much better than a black-and-white television, so why not in candlestick charts?
We simply substituted green instead of white, and red instead of black. This means that if the price closed higher than it opened, the candlestick would be green. If the price closed lower than it opened, the candlestick would be red. In our later lessons, you will see how using green and red candles will allow you to “see” things on the charts much quicker, such as uptrend/downtrends and possible reversal points. For now, just remember that we use red and green candlesticks instead of black and white and we will be using these colors for now on.
Above is an example of a candlestick. Isn’t it pretty?
The purpose of candlestick charting is strictly to serve as a visual aid, since the exact same information appears on an OHLC bar chart. The advantages of candlestick charting are:
- Candlesticks are easy to interpret and it's a good place for a beginner to start figuring out chart analysis
- Candlesticks are easy to use. Your eyes adapt almost immediately to the information in the bar notation.
- Candlesticks and candlestick patterns have cool names such as the shooting star, which helps you to remember what the pattern means.
- Candlesticks are good at identifying marketing turning points – reversals from an uptrend to a downtrend or a downtrend to an uptrend. You will learn more about this later.
Now that you know why candlesticks are so cool, it’s time to let you know that we will be using candlestick charts for most, if not all of chart examples on this manual.
Summary:
- There are three types of charts:
1. Line charts
2. Bar charts
3. Candlestick charts
- We will be using candlesticks from now on
The best way to predict the future is to create it.
- Peter F. Drucker
Trading Japanese Candlesticks
While we briefly covered candlestick charts in the previous lesson, we’ll now dig in a little and discuss them more in detail. First let’s do a quick review.
What is a candlestick?
Back in the day when Godzilla was still a cute little lizard, the Japanese created their own old school version of technical analysis to trade rice. A westerner by the name of Steve Nison “discovered” this secret technique on how to read charts from a fellow Japanese broker and Japanese candlesticks lived happily ever after. Steve researched, studied, lived, breathed, ate candlesticks, began writing about it and slowly grew in popularity in 90s. To make a long story short, without Steve Nison, candle charts might have remained a buried secret. Steve Nison is Mr. Candlestick.
Okay so what the heck are candlesticks?
The best way to explain is by using a picture off course.
Candlesticks are formed using the open, high, low and close.
If the close is above the open, then a hollow candlestick (usually displayed as white) is drawn.
If the close is below the open, then a filled candlestick (usually displayed as black) is drawn.
The hollow or filled section of the candlestick is called the “real body” or body.
The thin lines poking above and below the body display the high/low range and are called shadows.
The top of the upper shadow is the “high”.
The bottom of the lower shadow is the “low”.
Trading Japanese Candlesticks
Sexy Bodies
Just like humans, candlesticks have different body sizes. And when it comes to forex trading, there’s nothing naughtier than checking out the bodies of candlesticks!
Long bodies indicate strong buying or selling. The more buying or selling activity occurs, the longer the body becomes.
Short bodies imply very little buying or selling activity. In street forex lingo, bulls mean buyers and bears mean sellers.
Long hollow candlesticks means lots of buying is going on. The longer the body, the father apart the close price is from the open price. This means bulls are being aggressive and are kicking the bears’ butts’ big time.
Long filled candlesticks means lots of selling are happening. The longer the body, the farther apart the close price is from the open price. This means that prices fell a great deal from the open. In other words, the bears were the aggressors this time and were grabbing the bulls by their horns and body slamming them.
Mysterious Shadows
The upper and lower shadows on candlesticks provide important clues about the trading session.
Upper shadows signify the session high. Lower shadows signify the session low.
Candlesticks with long shadows show that trading action occurred well past the open and close.
Candlesticks with short shadows show that trading action was restricted near the open and close.
If a candlestick has a long upper shadow and short lower shadow, this means that buyers flexed their muscles bided prices higher, but for one reason or another, sellers came in and drove prices back down to end the session back near its open price.
If a candlestick has a long lower shadow and short upper shadow, this means that sellers flashed their washboard and forced price lower, but for one reason or another, buyers came in and drove prices back up to end the session back near its open price.
Trading Japanese Candlesticks
Basic Patterns
Spinning Tops
spinning tops are candlesticks with a long upper shadow, long lower shadow and small real bodies. The color of the real bodies is not very important. The pattern indicates the indecision between the buyers and sellers
The small real body (whether hollow or filled) shows little movement from open to close, and the shadows indicate that both buyers and sellers were fighting but nobody could gain the upper hand.
While the price opened and closed with little change, prices moved significantly higher and lower during the session.
If a spinning top forms during an uptrend, this usually means there aren’t many buyers left and a possible reversal in direction could occur.
If a spinning top forms during a downtrend, this usually means there aren’t many sellers left and a possible reversal in direction could occur.
Marubozu
Marubozu means there are no shadows from the bodies. Depending on whether the candlestick’s body is filled or hollow, the high and low are the same as it’s open or close. If you look at the picture below, there are two types of Marubozus.
A White Marubozu contains a long white body with no shadows. The open price equals the low price and the close price equals the high price. This is a very bullish candle as it shows that buyers were in control the whole entire session. It usually becomes the first part of a bullish continuation or a bullish reversal pattern.
A Black Marubozu contains a long black body with no shadows. The open equals the high and the close equals the low. This is a very bearish candle as it shows that sellers controlled the price action the whole entire session. It usually implies bearish continuation or bearish reversal.
Doji
Doji candlesticks have the same open and close price or at least their bodies are extremely short. The doji should have a very small body that appears as a thin line.
Doji suggest indecision or a struggle for turf positioning between buyers and sellers. Prices move above and below the open price during the session, but close at or very near the open price.
Neither buyers nor sellers were able to gain control and the result was essentially a draw.
There are four special types of Doji lines. The length of the upper and lower shadows can vary and the resulting candlestick looks like a cross, inverted cross or plus sign. The word "Doji" refers to both the singular and plural form.
When a doji forms on your chart, pay special attention to the preceding candlesticks.
If a doji forms after a series of candlesticks with long hollow bodies (like white marubozus), the doji signals that the buyers are becoming exhausted and weakening. In order for price to continue rising, more buyers are needed but there aren’t anymore! Sellers are licking their chops and are looking to come in and drive the price back down.
Keep in mind that while the decline is sputtering due to lack of new sellers, further buying strength is required to confirm any reversal. Look for a white candlestick to close above the long black candlestick’s open.
Reversal Patterns
Prior Trend
For a pattern to qualify as a reversal pattern, there should be a prior trend to reverse. Bullish reversals require a preceding downtrend and bearish reversals require a prior uptrend. The direction of the trend can be determined using trend lines, moving averages, or other aspects of technical analysis.
Hammer and Hanging Man
The hammer and hanging man look exactly alike but have totally different meaning depending on past price action. Both have cute little bodies (black or white), long lower shadows and short or absent upper shadows.
The hammer is a bullish reversal pattern that forms during a downtrend. It is named because the market is hammering out a bottom.
When price is falling, hammers signal that the bottom is near and price will start rising again. The long lower shadow indicates that sellers pushed prices lower, but buyers were able to overcome this selling pressure and closed near the open.
Word to the wise… just because you see a hammer form in a downtrend doesn’t mean you automatically place a buy order! More bullish confirmation is needed before it’s safe to pull the trigger. A good confirmation example would be to wait for a white candlestick to close above the open of the candlestick on the left side of the hammer.
Recognition Criteria:
- The long shadow is about two or three times of the real body.
- Little or no upper shadow.
- The real body is at the upper end of the trading range.
- The color of the real body is not important.
The hanging man is a bearish reversal pattern that can also mark a top or strong resistance level. When price is rising, the formation of a hanging man indicates that sellers are beginning to outnumber buyers. The long lower shadow shows that sellers pushed prices lower during the session. Buyers were able to push the price back up some but only near the open. This should set off alarms since this tells us that there are no buyers left to provide the necessary momentum to keep raising the price. .
Recognition Criteria:
- A long lower shadow which is about two or three times of the real body.
- Little or no upper shadow.
- The real body is at the upper end of the trading range.
- The color of the body is not important, though a black body is more bearish than a white body.
Inverted Hammer and Shooting Star
The inverted hammer and shooting star also look identical. The only difference between them is whether you’re in a downtrend or uptrend. Both candlesticks have petite little bodies (filled or hollow), long upper shadows and small or absent lower shadows.
The inverted hammer occurs when price has been falling suggests the possibility of a reversal. Its long upper shadow shows that buyers tried to bid the price higher. However, sellers saw what the buyers were doing, said “oh hell no” and attempted to push the price back down. Fortunately, the buyers had eaten enough of their Wheaties for breakfast and still managed to close the session near the open. Since the sellers weren’t able to close the price any lower, this is a good indication that everybody who wants to sell has already sold. And if there’s no more sellers, who is left? Buyers are.
The shooting star is a bearish reversal pattern that looks identical to the inverted hammer but occurs when price has been rising. Its shape indicates that the price opened at its low, rallied, but pulled back to the bottom. This means that buyers attempted to push the price up, but sellers came in and overpowered them. A definite bearish sign since there are no more buyers left because they’ve all been murdered.
Shoot for the moon. Even if you miss, you'll land among the stars.
- Les Brown
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