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Sunday, March 19, 2006

Candlesticks and Terminology

I love candlesticks. At one time, I thought they were the holy grail. Almost ten years ago, I spent a lot of time studying Nison's books and videos and became an "expert". Now I know they are not the holy grail, but they are still an important part of my trading and I would never trade without them.

I constantly get questions about candlesticks - "why did you call that a hammer?", "what is "hammer-like"?", "you traded that long, but isn't that candlestick formation bearish?". If you read my post "How I Trade, and Analyzing Charts" you will get the answers to many of these questions. But, for simplicity I will try to address them here.

My definition and terminology do not always match what you read in the books. Everything I do is based on MY experience of what works, not what appears in "formal publications". So, there may be conflicts. Here are my thoughts on some of the common questions:

> the classic "hammer" occurs at the end of a downtrend, has a small real body and a long lower tail/wick, and almost no upper tail/wick. I agree with this definition, but I also think "hammers" can be a powerful bullish indicator in an uptrend. If you look at the charts I post, you will see that a great deal have "hammers" that are in uptrends - and they tend to work consistently. Now, some of you say isn't this called a "hanging man"? The classic "hanging man" looks like a "hammer" but occurs at the end of an uptrend, and signals a reversal. So, I do not call it a "hanging man" because I am not looking for a reversal. I call them "hammers" and when I use the term "hammer" it is used in a bullish context.

> "hammer-like" - I use this term to describe a candle that does not fit the classic definition of a "hammer" (see above), but has similar characteristics. For example, it may have a large real body and a long lower tail/wick. Or, it may have a small upper tail/wick. Or, the lower tail/wick may not be as long as it should be.

> "bullish" vs. "bearish" - many people write me about "gravestone doji's" - in my experience, they are great bullish candles if they occur at support. My definition of a "gravestone doji" is a candle that occurs at the end of a downtrend, has a small real body and a long upper tail/wick, and almost no lower tail/wick (the opposite of a "hammer"). There is also a candle called a "shooting star" - it is a bearish candle that occurs at the end of an uptrend and has a long upper tail/wick. Many people, sources, and books call this a "gravestone doji" - they look the same, but one occurs at the end of a downtrend and is bullish, one occurs at the end of an uptrend and is bearish (like a "hammer" vs. a "hanging man"). Based on my experience, if price can take out the upper tail/wick (regardless of whether it is a "gravestone doji" or a "shooting star"), it can be a bullish set-up.

Confused? The bottom-line is that it does not matter what you call it - what matters is that it works...CONSISTENTLY. So, I am an advocate of candlesticks - but at the same time, don't get caught up in memorizing textbook definitions of candles and patterns. Instead, study your charts and see what REALLY works.

--- Nison, of course. See my "Resources" page.
--- Lit Wick - they have a good glossary with graphical depictions (I am not recommending their service - I have no experience with it or need for it).

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Zoomie said...

I have followed your charts, as you know, since January. I have had my 2 best months since. I had been trading the "dummie" method, and continue to do so, but now with an emphasis on hammers and dojis. Your chart analysis has enabled me to become profitable. I printed out all of your charts, and studied them nightly. I suggest your readers do the same. You will see results!! Thanks again!!

John Wheatcroft said...

An absolutely great, free, on-line resource for candlesticks is - candlesticker.com

They give you a page of bull indicators and a page of bear and a page of neutral . Each pattern/stick is fully explained .

If you "know" sticks or have never used sticks this is a good site.

Here is one of the many things they say about the hammer -

"The reliability of Bullish Hammer Pattern is low. It requires confirmation of the implied trend reversal by a white candlestick, a large gap up or a higher close on the next trading day."

And since that parallels my experience I add - amen.

Michael said...

Good point about focusing on what works but I still have issues with calling a hanging man a hammer. Why not just call it a hanging man to ease the confusion? The fact still stands that if a stock trades above the top of a hanging man or any other bearish pattern it's a bullish sign.

Trader-X said...

John - thanks. I will check it out. Though I would like to reiterate my point about studying charts and seeing what works, as opposed to taking someone else's word for it...for example, the quote regarding the hammer pattern in your comments. I have seen studies done of various patterns backtested over years that say one thing or another - they are all meaningless out of context.

Given the way I trade, and the Fibonacci support/resistance that I plot and follow - the hammer is an extremely reliable pattern. But, if you do a study of daily charts over the past 10 years and simply key in on the textbook definition of a "hammer" and see if it works, it probably will not!!!

Trader-X said...

Hey Mike. I just want to be unique and different. Quit trying to make me conform!!!

Actually, point taken. If the bar is at the high of that move I will refer to it as a "hanging man". But I will still refer to pullbacks and inside bars as "hammers", because they are not at the high.

Chris said...

If we're voting, I say call them all hammers. Your post explains everything well.

Daniel S. said...

I say you call it the Trader X "T" and be done with it. Thanks for a great blog. Cheers.

Trader-X said...


Thanks for the input.

Anonymous said...

Hi Trader-X,

It would be interesting to read your story of how you got started and what you have been through as a trader. I would also like to thank you for the great blog. Educational, consistent and easy to understand.


Trader-X said...

Hey Glenn - a Trader-X bio may be boring. I could spice it up with some stories about prison and rehab, as well as illegal arms sales...but, some of that may be fabricated.

Regarding trading - I opened my first brokerage account and made my first trade(s) in 1991. I was always interested in technical analysis (as opposed to fundamentals), and have spent the past 15 years developing my methodology (and still work on it every day). I traded as I worked at a "real" job selling enterprise software solutions. I made the transition to full-time trade after the turn of the century.

I will think about putting together a post with more detail, but that is the 40,000 foot view.