How to Trade With Candlesticks

Candlestick charts are a colorful visual representation of price behavior. First used by Japanese rice traders, candlestick charts are equally useful when trading stocks, commodities and mutual funds. The candlesticks can indicate the overall market sentiment of a security along with price information and trend strength. Before adding candlesticks to your technical analysis indicators, your first need to understand what information is contained in each candlestick.

Understand what makes up a candlestick. The long rectangular box is called the body. The opening price is indicated at the bottom of the box and the closing price is indicated at the top of the box. There may be a thin line extending down from the bottom of the box. This is called the tail. The tail ends at the trading period’s lowest price. A thin line extending from the top of the box is called the shadow. It ends at the trading period’s highest price.

Recognize how candlesticks use different colors and body lengths to indicate price movements. A white or green body indicates the price moved up. A black or red body indicates the price moved down. The body length tells how much the price moved during trading. A long body indicates the price moved widely and is a strong bullish or bearish signal. A short body indicates a narrow price range and could indicate a price consolidation period. There is no candlestick body if the opening and closing prices are the same.

Pull up a stock chart and select candlesticks as the price indicator. Determine if there is a trend. Candles that are predominantly green or white are moving upward from increased buying pressure. This indicates a bullish trend. Candles that are predominantly black or red are moving downward from increased selling pressure. This indicates a bearish trend.

Look at the length of the candlestick body. A series of long green or white candlesticks indicates a big upward price jump from strong buying. If the candlesticks become shorter and squatter at the top of the uptrend, the trend is weakening. A series of long black or red candlesticks indicates a large price drop from strong selling. Several short or squat candlesticks at the bottom of the downtrend indicates a weakening trend.

Analyze the candlestick body for a tail or shadow. A tail indicates that although the price fell, it recovered somewhat before trading ended. A shadow indicates prices spiked up and fell back during the trading day.

Pull all the information together. For example, two or three long black or red candles at the top of an uptrend could indicate a downward trend is forming.