Technical Analysis Basics: Discover the Anatomy of the Forex Candlestick Chart

As a Forex trader, you shouldn’t make rash decisions when it comes to buying and selling currency pairs. In fact, you should take as much time as necessary to study price action to understand the supply and demand. Thanks to minute analysis, you can predict the right time to enter and exit a trade, which in turn brings about good results. The analysis can be technical in nature, deploying resources such as charting tools. Candlestick charts, or Forex candles, enjoy continued use among traders because of the invaluable information they offer. The graphs provide more data than a standard line chart, so you can interpret price data in a more advanced way.

If you want to become a successful or profitable Forex trader, it’s crucial to get a good understanding of how a candlestick chart works. Even if it’s harder to understand in the beginning, the candlestick allows you to see the action that took place in the market in more detail. Basically, you’re able to determine the probability of the equity’s future movement. After a little bit of practice, you’ll become familiar with this centuries-old charting style.

Now, how do you read a Forex candle?

Every Forex candlestick has a central part that is referred to as a body. It covers the area between the opening price and the closing price for a period of time. There are two colors to become aware of, namely red and green. If the closing price is higher than the opening price, the candle is colored green. On the flip side, if the closing price is lower than the opening price, the candle is colored red. To put it simply, the color-coded system provides the trader direction. You can see whether the prices have moved up or down without much difficulty. Besides color, there are some factors to give extra thought to, such as:

  • Open price – The top or the bottom of the candle points to the opening price; the price level can increase or decrease over a period of time.
  • High price – It’s signaled by the top of the shadow or tail above the body.
  • Low price – The bottom of the shadow or tail indicates a lower price. Should the open or close price be the lowest price, you’re not likely to see a low shadow.
  • Close price – The top or the bottom of the candle will indicate the closing price. When the time period for the candle comes to an end, a new candle is formed.
  • Price range – The distance between the top of the upper shadow and the bottom of the lower shadow represents the price range.

Over the years, traders have developed various candlestick patterns

A candlestick pattern can be defined as a change in the price, which is represented graphically on a chart. Research has confirmed that candlestick patterns have a non-negligible predictive value and can, therefore, produce positive returns. There are many candlestick patterns in Forex trading that can be leveraged to predict the future direction of price movement. Some patterns have greater predictive power. Examples include but aren’t limited to Dark Cloud Cover, Harami, and Morning/Evening Doji Star.

Different candlestick patterns convey different messages. The denominations given to candlestick patterns often reflect the emotional sentiment of the market. Dark Cloud Cover, for instance, indicates the abnormal state of the financial market. The red candle opens above the closing price of a preceding green candle, but closes below the midpoint of that candle. As a rule, traders read this pattern as a sell signal. As a Forex trader, you should take the time to understand how these patterns work and how to read the information they provide. Making decisions based on regularly occurring patterns helps predict the short-term direction of the price.

Pattern recognition is useful in terms of predicting the direction of an asset’s price, its tendencies, and driving power. You can build a solid Forex trading strategy. There are numerous candlestick patterns, ranging from simple to complex. Not only will you come across many of them during your trading journey but also you’re likely to discover one yourself. It’s important to look at the size of the candle too. A candle that is bigger in size (ex. 40 pips) is more valuable as compared to one that is smaller in size. The stronger it is, the more information the candle will provide. Nonetheless, don’t ignore the timeframe.

Does a candlestick chart have limitations?

Candlestick charts are more useful as compared to traditional open-high, low-close bars or simple lines connecting the dots of closing prices. By learning how to analyze candlestick charts, you learn how to trade logically and make better decisions. Nevertheless, attention needs to be paid to the fact that technical analysis has its limitations. Rather than being used in isolation, candlestick charts should be deployed in tandem with other technical indicators, such as the relative strength index or moving average. It’s not recommended to treat the patterns in isolation.

Candlestick patterns can be subjective at times, but they can be successfully used to support trading decisions. Candlestick chart formation is precise and getting a grip of its mechanism requires practice, as well as patience. You can produce a robust trading methodology if you combine price action with other factors. It’s not the number of trades you finalize that counts, but the efficiency of the trades that you build on your account. Wait properly for price action candles to close and practice patience in trade management.

To sum up, all Forex traders should be knowledgeable about candlestick charts and, most importantly, what they indicate. Candlestick analysis offers many advantages and the great part is that the method can be applied to all financial markets. It’s advisable to supplement your understanding of candlestick patterns. You could pair candlestick formations with support and resistance levels to increase your chances of winning. Candlestick charts may not be perfect, yet they certainly bring a great contribution to the decision-making process. Don’t over-rely on Forex candles and use them with caution.  Don’t use technical analysis blindly.

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