Developed in the 18th century by rice trader Munehisa Homma, Japanese candlesticks have a long and storied history in the financial markets. From the Dojima Rice Exchange to their Western introduction by Steve Nison in the early 1990s, Japanese candlesticks have become a futures industry standard for technical analysis.
Active traders use candlesticks in many different ways. One of the most popular applications is the chart pattern. Candlestick patterns for day trading come in all shapes and sizes. Whether you’re interested in trends or reversals, chart patterns are a robust tool for engaging a wide-range of futures products.
Why Use Candlestick Patterns for Day Trading?
Japanese candlestick charts are a fantastic method of conducting technical analysis. Each candle conveys several pieces of information critical to the understanding of the evolving market dynamic. Not only does a candle show the periodic high, low, open, and close, but it also provides a visual representation of bullish or bearish price action.
Chart patterns take candlestick analysis one step further. No matter how simple or complex the formation, there are two primary reasons to use candlestick patterns for day trading:
- Define market entry or exit: Depending upon whether you’re a momentum, breakout, or trend trader, candlestick patterns can help determine when and where to enter or exit a given market.
- Trade management: Aligning risk to reward on-the-fly becomes exponentially easier when you’re aware of the current market state. Candlestick chart patterns can help balance the pros and cons of holding or closing an existing position.
You can integrate candlestick patterns into your existing trading plan in any number of ways. With a bit of effort, the real-time execution of strategies based on patterns can become second nature.
The Power of Candlestick Chart Patterns
The study of price action is inherently tricky. Identifying the current market state and subsequent direction of price is always a challenge, but candlestick chart patterns can make the process exponentially easier.
Candlestick patterns are extremely useful in quantifying four unique aspects of market behavior:
- Consolidation
- Breakout
- Trend reversal
- Trend continuation
For each of these aspects, several candlestick patterns for day trading are ideal for identifying a potential path of price. Upon their recognition, crafting an optimized strategy to capitalize on a forthcoming market move becomes possible.
Candlestick Patterns in Action
Perhaps the greatest challenge in all of active trading is identifying market state. Understanding when price is trending and when it’s poised for a breakout are key elements of predicting future price action.
The following four candlestick patterns are extremely helpful in completing this task:
- Doji: A single-candle formation, the doji is a signal of consolidation and pending breakout.
- Bearish/bullish engulfing: Engulfing patterns consist of two candles, with the body of the second enclosing that of the first. Engulfing patterns are used for identifying trend exhaustion and possible reversal.
- Morning/evening star: Consisting of three candles, morning/evening stars commonly act as points of trend reversal. Morning/evening stars are constructed from a long bullish/bearish candle, a small bullish/bearish candle and a third long bullish/bearish candle.
- Rising/falling wedge: Wedges are multiple candlestick formations that involve extended durations. They are useful for identifying the continuation of a prevailing longer-term trend.
Given the proper context, each of these patterns can bring consistency to your trading plan. With a bit of screen-time and practice picking them out, these candlestick patterns for day trading can be an invaluable addition to your strategy.
