Candlestick patterns can give you invaluable insight into price action at a glance. While the basic candlestick patterns can tell you what the market is thinking, they often generate false signals because they are so common. Here we introduce you to more advanced candlestick patterns, with a higher degree of reliability, as well as explore how they can be combined with gaps to produce profitable trading strategies.
Island reversals are strong short-term trend reversal indicators. They are identified by a gap between a reversal candlestick and two candles on either side of it.
Clusters are easier to spot, but they often result in weaker reversals that are not as sharp and take longer to occur. Hook reversals are short- to medium-term reversal patterns.
They are identified by a higher low and a lower high compared to the previous day. Figures 3 and 4 are two examples that occurred on the chart of Microsoft Corp. San-ku patterns are anticipatory trend reversal indicators.
In other words, they do not indicate an exact point of reversal; rather, they indicate that a reversal is likely to occur in the near future. They are identified by three gaps within a strong trend. Here is an example that occurred on the chart of Microsoft Corp. Kicker patterns are some of the strongest, most reliable candlestick patterns. They are characterized by a very sharp reversal in price during the span of two candlesticks.
When gaps are combined with candlestick patterns and volume, they can produce extremely reliable signals. Here is a simple process that you can use to combine these powerful tools:. Attempting to play reversals can be risky in any situation because you are trading against the prevailing trend. Do make sure that you keep tight stops and only enter positions when trades meet the exact criteria.
Now you should have a basic understanding of how to find reversals using advanced candlestick patterns, gaps and volume. The patterns and strategies discussed in this article represent only a few of the many candlestick patterns that can help you better understand price action, but they are among the most reliable.
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A celebration of the most influential advisors and their contributions to critical conversations on finance. Become a day trader. Island Reversal Patterns Island reversals are strong short-term trend reversal indicators. Figure 1 Figure 2 Here are some important things you need to consider when using this pattern: This type of scenario is best characterized by a long-ended doji candle that has high volume occurring after a long prior trend; it is important to look for these three elements to confirm any potential reversal pattern.
This reversal pattern does not necessarily indicate a medium- or long-term reversal, so it would be prudent to exit your position after the swing move has been made. If the next candle ever fills the gap, then the reversal pattern is invalidated, and you should exit prudently. Hook Reversal Patterns Hook reversals are short- to medium-term reversal patterns. Figure 3 Figure 4 There are several important things to remember when using this pattern: If the pattern occurs after a downtrend , then the opposite is true.
As with the island reversal pattern, we are also looking for high volume on this second candle. Finally, the stronger the prior trend, the more reliable the reversal pattern. Defining the target and stop - In most cases, you will see a sharp reversal as seen in Figs. If the next candle shows a strong continuation of the prior trend, then the reversal pattern is invalidated, and you should exit quickly, but prudently.
Figure 5 Here are some important things to remember when using this pattern: Therefore, this pattern is best used with other exhaustion indicators. So, look for extremes being reached in indicators such as the RSI relative strength index , MACD moving average convergence divergence crossovers , and other such indicators. It is also useful to look for volume patterns that suggest exhaustion. However, if there are any breakouts on high volume after the last gap, then the pattern is invalidated, and you should exit quickly, but prudently.
Kicker Patterns Kicker patterns are some of the strongest, most reliable candlestick patterns. Figure 6 Here are some important things you need to remember when using this pattern: Ideally, you should look for a gap between the first and second candles, along with high volume. If the trend instead moves sideways or against the reversal direction, then you should exit quickly, but prudently. Using Gaps with Candlesticks When gaps are combined with candlestick patterns and volume, they can produce extremely reliable signals.
Here is a simple process that you can use to combine these powerful tools: Screen for breakouts using your software or website of choice.
Make sure that the breakouts are high volume and significant in terms of length. Watch for reversal candlestick patterns such as the ones mentioned above after the gap has occurred. This will typically happen within the next few bars, especially if the bars are showing indecision after a long trend. Take a position when such a reversal occurs. How much a fixed asset is worth at the end of its lease, or at the end of its useful life.
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