Candlesticks provide visual ways to make reading prices easier. Trading with Japanese Candlestick graphs allow for better comprehension of market direction. Candlesticks offer a greater depth of information than traditional bar charts – where the high and low are emphasized. Candlestick graphs instead emphasize the relationship between the closing price and opening price. Many technical analysts regard the closing price as the most important price above the open, high and low prices. The closing price is also used to determine what type of candlestick graph is created.
Candlestick graphs allow traders to more quickly identify different types of candlesticks that tend to predict reversals or continuations in trends – one of the most challenging aspects of trading. When combined with other technical analysis tools, Candlestick graph analysis can be a very useful way to select entry and exit points.
The following image shows how to construct a candlestick graph:
The body of a candlestick illustrates the difference between the open and closing price. Its color (in this case, black for down and white for up) shows whether the candle’s time frame (whether it’s for a day or week, etc.) closed up or down. Some charting programs might use colors other than black or white to create candlestick graphs. Green (instead of white) is a commonly used color for bullish candles and red (instead of black) is a commonly used color for bearish candles.
The shadows point out the extreme low and the extreme high price for the time period of the candlestick graph.
Because the body of the candle is wider than the shadows, candlestick charts point out how the closing price relates to the opening price more than other charts.
Bar charts by comparison allow spikes to highs and lows to be displayed more prominently than the open and closing prices. The highs and lows are often less representative of momentum though and a candlestick’s real body shows the essence of price movement. The power of candles is their ability to visually focus on what the market was able force price to do during a period of trading. A candlestick chart uses the same data as a bar chart; open, high, low and close. Candlestick graphs just make it easier to see the price movement and give the candlesticks meaning.
One of the most important goals of technical analysis is to identify trend changes. Because candlesticks give early insight into what the market is doing, one of the most useful aspects of candlestick analysis is its ability to suggest changes in the sentiment of the market. We call these candlestick graphs reversal patterns.
There are a numerous technical patterns in Western technical analysis that can be combined with candlestick graphs. These patterns have names such as the Head and Shoulders pattern, Triangles, Flags, Wedges, Double Tops and Double Bottoms. Those technical patterns represent common patterns found on candlestick graphs that precede a reversal. Reversal patterns in western analysis often take many periods to form. On the other hand Candlestick interpretations concentrate much more on understanding market psychology than anything else. And because the vast majority of Candlesticks formations take one to three time periods, they give traders more of a real time picture of market movement.
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