Japanese candlesticks: why they stand out in trading

Originally developed by traders in Japan centuries ago, the Japanese candlesticks charts have become a popular way to analyse price movements and predict future trends. But what are they and how can you use them effectively in your trades?

What are Japanese candlesticks?

Japanese candlesticks are a popular method used in technical analysis to visualise price movements in financial markets. They originated in Japan centuries ago and have since become a staple in trading strategies worldwide.

Each candlestick represents a specific time period (such as a day or an hour) and consists of a rectangular body and thin lines called wicks or shadows.
The body represents the opening and closing prices, while the wicks indicate the high and low prices during that period. Candlestick patterns provide valuable insights into market sentiment, helping traders identify trends, reversals, and potential trading opportunities.

How can you use Japanese candlesticks in trading?

Here are a few ways you can utilise Japanese candlesticks in your trading strategy:

1. Identify trend reversals: Candlestick patterns, such as doji, hammer, or engulfing patterns, can indicate potential trend reversals. A series of bullish candlesticks followed by a bearish reversal pattern may suggest a shift in market sentiment and a possible trend reversal.
2. Spot support and resistance levels: The highs and lows of candlestick wicks can act as support and resistance levels. By identifying areas where price repeatedly struggles to break through or bounces off, traders could make more accurate predictions about future price movements.
3. Determine market sentiment: The size and colour of candlestick bodies can reveal the dominance of buyers (bullish) or sellers (bearish) in the market. Large bullish candles indicate strong buying pressure, while large bearish candles suggest intense selling activity.
4. Confirm chart patterns: Candlestick patterns can validate other technical analysis tools, such as chart patterns like head and shoulders or double tops. If these patterns coincide with specific candlestick formations, it may provide stronger confirmation for potential trading signals.

Difference between Japanese candlesticks and other charts

• Visual appearance: The most apparent difference between Japanese candlestick charts and other chart types is their visual appearance. Japanese candlesticks use coloured rectangular boxes with thin lines, representing the opening, closing, high and low prices of an asset over a particular time frame. In contrast, line charts plot only the closing price of an asset while bar charts use vertical lines with two horizontal lines on each end to represent the opening and closing prices.
• Interpretation of price action: The other major difference between Japanese candlesticks and other chart types is how they interpret price action. With Japanese candlesticks, traders can identify key reversal, continuation, and indecision patterns better than other chart types. The variety of candlestick patterns such as engulfing, doji, and hammers provide traders with multiple opportunities to spot potential price movements. On the other hand, bar and line charts can quickly show a trend’s direction but lack the in-depth analysis that candlestick charts provide.
• Informational content: Japanese candlestick charts provide traders with more informative content than other chart types. They reveal the market’s sentiment, showing whether buyers or sellers are dominating through the colour-coded candles. Green candlesticks represent bullish sentiment, while red candlesticks represent bearish sentiment. Candlesticks also convey whether a security has closed higher or lower than its opening price over a particular period. The additional information provided by candlesticks gives traders more confidence in their analysis and trading decisions.
• Time frame analysis: When working with different time frames, Japanese candlesticks can provide a better visual representation of price action. With multiple candlesticks on a chart, traders can quickly assess the market’s sentiment for a particular asset over different time intervals. Bar and line charts lack the depth that candlestick charts offer.
• Trading Strategies: Finally, the type of chart a trader uses can significantly influence the success of their trading strategy. The Japanese candlestick charts provide traders with more trading signals than other chart types, making it easier to spot potential market opportunities. Candlestick-based trading strategies such as the morning star, evening star, or bullish engulfing strategies have been around for many years, and they still work.

Why are they important for traders?

Japanese candlesticks are an essential tool for traders due to their ability to visually represent price patterns and market sentiment.

These candlestick charts offer a clear and concise depiction of price movements, aiding traders in analysing trends, reversals, and potential trading opportunities. With the ability to identify support and resistance levels, traders can set entry and exit points more accurately.

Candlestick patterns also validate other technical analysis tools, providing confirmation for chart patterns and enhancing the reliability of trading signals. By utilising Japanese candlestick analysis, traders gain valuable insights into price action and improve their chances of making informed trading decisions.

Practise Japanese candlesticks with the Skilling demo account

While Japanese candlesticks offer a powerful tool for predicting trends, it's important to remember that candlestick patterns should be used alongside other technical analysis methods for confirmation.

If you're eager to enhance your candlestick analysis skills but not quite ready to trade real markets, start by taking advantage of the risk-free Skilling demo account first, before trying it in real trades.