- Date : 11/02/2021
- Read: 5 mins
Worried about making the wrong decisions in intraday trading? Here’s how you can make better decisions in intraday trading with candlestick charts.
Success in intraday trading hinges on the price movements of stocks within a day and the ability of day traders to read the signals right. The actual price movements are linked to various factors that may or may not be easily discernible. While it might not be possible for day traders to have the inside scoop on certain factors, various decision-making tools can help. One reliable tool frequently used by traders is the candlestick chart, which can help avoid hard landings.
Here’s the lowdown on this tool from a different era that can empower traders.
What are candlestick charts?
The tool, which was developed two centuries ago and honed over time to its present form, is credited to Homma Munehisa, a legendary rice merchant in Osaka, Japan. Incidentally, Homma is regarded as the most successful price action trader in history; one who ranked high above his contemporaries. Given his impressive credentials and proven strategies, it certainly makes sense to understand and use the tool.
A candlestick chart is basically a compilation of price movements that are intelligently stitched together to present a data-backed sense of direction of stocks. This permits the user to make informed decisions. The best part is that users need not read up on all the various signals or factors that influence the price of stocks. One look at the candlestick chart is all that’s required to interpret and make a sound decision.
Components of a candlestick chart
The chart is an arrangement of ‘candlesticks’ that represent price movements. As can be seen from the image below, a user learns of four distinct data points from each candlestick – the price of the stock when trading started for the day, the price when trading closed for the day, the highest price for the stock during the day, and the lowest price for the stock during the day.
The body of the candle offers additional inputs. When it is filled, it indicates that the difference between the stock price closed at a level that was lower than the price when trading started. When not filled, it indicates that the stock price closed at a level higher than when trading started. Each candlestick comprises a body, an upper shadow and a lower shadow.
The size of each component will vary as per the data, so will the colour and the fill pattern. Essentially, each component of the candlestick is a source of rich data that offers a lucid understanding of how the stock fared during a particular period.
How to read bullish and bearish patterns
As mentioned, each candlestick offers data-backed inputs about the price movement of a stock for a period. However, decisions on intraday trading go beyond price movements for a day, and the best decisions are often on the basis of trends/patterns. In other words, traders always try to find out if there’s been a bullish or bearish streak. A mere look at the patterns in the candlestick charts give traders a quick interpretation of bull/bear runs.
Here are some key patterns that are typically read as signals for buy/sell decisions.
How to identify a buying opportunity from a bullish hammer pattern:
Hammer refers to one candlestick having a small body with a long lower shadow. When a hammer at the bottom of a downward trend pattern is in the form of a bullish hammer (small body with long lower shadow) it indicates a possible reversing of the trend, and this presents a buying opportunity for the trader. Depending on the pattern, a trader can set a stop loss value and profit from the price movement within the day.
How to identify a selling opportunity from a bearish pattern:
Bearish patterns indicate that the uptrends will be followed by downward direction of the costs. This essentially means that the trader should use this as a cue to understand the bearish trends of the market. The hanging man candlestick is similar to that of a bullish hammer – the only difference is the position on the chart. A bullish hammer follows a downward trend, whereas a hanging man follows an upward trend. Again, depending on the trend, the trader can set a stop loss value to ensure that the stocks are sold in time, within the price movement of the day.
Other patterns that present buying opportunities
Inverse hammer pattern: As the name suggests, this is the reverse of a bullish hammer, and is located in a similar position after a downward trend.
Bullish engulfing pattern: This refers to a pattern where two adjacent candlesticks present a buying opportunity. The first candlestick is short with almost equal upper and lower shadows. The second candlestick is long with a small upper shadow and a longer lower shadow.
Other patterns that present selling opportunities
Shooting star pattern: This is more like the reverse of a hammer with a short body and a long upper shadow. This is typically on the top of an upward trend and indicates that the markets have opened higher, but are succumbing to market pressure and is therefore a selling opportunity.
Bearish engulfing pattern: This refers to the pattern of two adjoining candlesticks presenting a selling opportunity. The first candle is typically short with a very tiny lower shadow, and the second candle is large with a long upper shadow and a small lower shadow. These candles are typically at the top of upward trends and indicate that the market is slowing down, presenting the trader with selling opportunities.
There are various other patterns that are part of the candlestick charts and are effective tools that help to understand more about price movements. This helps day traders to decide on the right impulse and trade with a greater margin of safety.