Volatility refers to the frequency and magnitude of price changes of financial instruments. An asset is said to be highly volatile if its price swings a lot over a short period, such as one day. Contrary to this, there is no volatility if the asset price does not move within a short span. The forex market is known to have increased volatility levels. While volatility help scalpers find multiple trading opportunities and make quick profits, it can also lead them to incur severe trading losses if the market moves unfavorably. In this article, we discuss the most volatile currency pairs in detail.
What are the most volatile currency pairs, and how to trade them?
Traders employ various trading strategies to trade and benefit from the forex market volatility. For instance, standard deviation and price variance help traders predict how much an underlying currency pair will fluctuate over a specific time. Investors can also evaluate FX volatility by observing the currency pair’s true range or the percentage of the spot range. The volatility of different currency pairs varies. The higher a currency pair is volatile, the more significant risk it carries and vice versa. Given below is the list of the most volatile currency pairs.
Australian Dollar/Japanese Yen – AUD/JPY
Canadian Dollar/Japanese Yen – CAD/JPY
Australian Dollar/Pound Sterling – AUD/GBP
New Zealand Dollar/Japanese Yen – NZD/JPY
Australian Dollar/US Dollar – AUD/USD
On the other hand, The liquidity and volatility of other major forex pairs, such as EUR/USD, GBP/USD, USD/JPY, and USD/CHF, are relatively lower. Notably, emerging market currencies, such as the USD/ZAR, USD/MXN, and USD/TRY are known to have the world’s highest volatility levels.
As a result of the inherent risk in emerging market economies, their relative currencies are considered exceedingly volatile. The US Dollar/South African – USDZAR chart below shows how volatile developing market currencies can be, with the USD/ZAR rising by roughly 25% in just over a month. That’s not the first time a currency pair from an emerging market has swung dramatically.
For forex traders, present volatility readings and potential volatility changes hold critical significance while making trades. Traders should also modify their positions according to the currency pair’s volatility. Reducing your position size might become necessary when trading highly volatile currency pairs.
This knowledge helps traders set suitable stop loss (SL) and take profit (TP) limit orders based on volatility. Investors should also understand the key characteristics of the most volatile and least volatile currencies. In addition, traders need to be able to gauge volatility and be alert to any events that could cause it to spike or plummet significantly.
How to measure a currency pair’s volatility?
Traders need to evaluate the volatility of a currency to establish the appropriate position size. Investors can employ various indicators to measure a currency pair’s volatility, including but not limited to the Average true range (ATR), Donchian waterways, and Moving Average indicators. Volatility implied readings, which indicate the predicted degree of volatility obtained from options, are another option for traders to investigate.
Please note that market volatility has several implications for traders.
Important socioeconomic events can significantly affect a currency’s volatility, such as trade wars and Brexit. Volatility can be influenced by data releases as well. An economic calendar can help traders remain on top of upcoming data releases.
Many technical components of trading, such as resistance and support levels, trendlines, and price patterns, still apply to volatile currency pairs. A mix of technical analysis and risk management concepts can help traders cater to the market’s volatility and use it.
Traders need to stay abreast of the latest FX news, research, and rates to anticipate probable volatility shifts. Various online sources provide information related to trading, such as our Academy, helping you make informed trading decisions when dealing with the most volatile currency pairs. Learn more about forex and refine your trading tactics with the help of Traders Central.
Which currency pairs are the least volatile?
When it comes to currency pairs, the most stable currencies happen to be the most liquid ones. This is because, besides being large, these economies are typically more developed. As a result, more trading volume is generated, resulting in a more stable price. Therefore, it shouldn’t be surprising that EUR/USD, EUR/GBP, and USD/CHF are some of the least volatile currency combinations.
According to the chart below, USD/CHF has a low ATR (Average True Range) compared to other currency pairs. You can measure volatility in various ways, including the currency pair’s true range. To determine the FX pair’s volatility, investors can also use the Bollinger Bandwidth (another commonly used technical indicator).
The volatility of two currencies can also have a correlation impact. The more favorably connected two currencies are, the less volatile they may be. Notably, the US Dollar (USD) and Swiss Franc (CHF) are considered safe-haven currencies.
It is not uncommon for the USD and CHF to rise against their sentiment-linked counterparts when the market suffers periods of risk aversion. As a result, the USD/CHF has a low level of volatility.
What is the difference between trading the most and least volatile currency pairs?
Highly volatile currencies tend to move more pips than those with low volatility over a short period. Moreover, trading volatile currency pairs carries excessive risk.
Slippage is more likely to occur when trading high-volatility currency pairings than low-volatility currency pairs.
Trading high-volatility currency pairs necessitate determining the appropriate position size.
How has the FX market’s volatility changed over the previous years?
Over the recent years, bond investors have turned to FX trading, spotting market trends due to a lack of activity in fixed income markets. That became the turning point for the enormous but typically obscure foreign currency markets.
During the COVID-19 outbreak, central banks bought bonds at around $2 billion per hour, crushing volatility and reducing its usefulness as a signaling tool. In addition, the collapse of Interest rate differentials made currency markets more unpredictable than before.
Investors now believe that a currency market alternative is always available if bond markets get shattered. Clients now look upon currencies to predict market moves instead of focusing on the bond market projections. The volatility of numerous currencies, including the US dollar (USD), the Chinese yuan (CNY), the Euro (EUR), and the British pound (GBP), has increased, according to a State Street index of goods prices.
How can investors find updated information concerning possible currency market fluctuations?
Traders can find updated information on multiple financial websites featuring economic calendars, such as FXStreet.com, DailyFX.com, etc. Knowing forthcoming significant event risks can help traders avoid trading mistakes.
Forex traders should know the event risks that affect major currencies. Moreover, investors trade the news because it may enhance short-term volatility. Thus they want to trade news with the most market-moving potential.
Price action and volatility are often driven by:
Monetary policy changes
Economic data surprises
Global leader tweets
Fiscal policy shifts
Economic Calendar covers major events and economic data from the most-traded nations. It helps you determine each event’s relative significance. Traders can also filter out the economic calendar by the level of the potential impact of the upcoming news on the currency market. By choosing “HIGH,” you can see events known for triggering higher volatility in the forex market.
If you explore the Economic Calendar, you’ll see that the most significant events relate to inflation, economic growth, interest rates, retail sales, manufacturing, and consumer confidence. For example, Central bank rates, Labor statistics, Growth (GDP), Balance-of-trade, etc.
All these economic releases’ relevance may fluctuate depending on global events. For instance, Interest rate choices may be the emphasis at one moment but not at another. Therefore, staying abreast of the market is crucial.
To learn more about trading markets, check out our Academy. We have a wide range of educational resources, across all financial markets, including currency, indices, stocks, and cryptocurrencies. We also help competent traders reach their full potential with our funding solutions.
Whether you are an active day trader or have invested some funds in the stock market, you might be aware that the stock market doesn’t open all days a week, limiting the number of trading days each year. This article will debrief how many trading days there are in a year. We’ll also discuss why trading days fluctuate and who defines trading schedules, and what factors can impact how often you trade. But first, let us explain a trading day.
Image Source: Swingtradesystems.com
What Is a Trading Day?
A trading day refers to any day when the stock market is open. Unless there is a big event at a national level, such as National Holiday, the market usually remains open from Monday through Friday. It is worth mentioning that regular trading hours (RTH) are different from electronic trading hours (ETH).
From 9:30 am until 4:00 pm, the Nasdaq and the NYSE exchanges remain open for business. The trading day begins and closes with the bell’s ring in most cases. As soon as the closing bell sounds, all trading ceases and resumes on the next day.
Sometimes the stock market remains closed even on weekdays. For instance, a funeral of a state’s head is a public holiday or a day designated for a state event. Also, the market may shut down at 1:00 pm instead of 4:00 pm due to unavoidable circumstances, like an emergency.
How many trading days are there in a year in the United States?
Usually, a trading year averages 252 days, or 21 days per month and 63 days every quarter. However, the numbers keep fluctuating from year to year. For instance, there were 252/365 trading days in 2019 and 253 in 2020 since it was a leap year. Last year had 252 trading days. March had the most 23, while other months averaged 21 days per month, or 63 days each quarter. Notably, 104/365 days were weekends, besides 09 market holidays in 2021.
Below is the simple equation you may use to find the number of trading days in a year.
Total trading days per year = Trading days – (Weekends + Holidays)
= 365 – (104+9)
= 252
Who defines trading hours?
The primary stock exchange in each nation sets the trading timetable for the stock market. The NYSE determines the trading timetable in the US, and most other stock exchanges follow it for both days and hours. In addition to trading hours Monday through Friday, the NYSE practiced a two-hour trading session every Saturday until 1952. However, the NYSE and other US exchanges now stick to Friday – Mon trading schedule.
The New York (NY) time zone is the base of the trading hours. Hence, traders from other time zones must trade during the NYSE’s trading day. These exchanges allow remote trading via electronic platforms, but only during designated market hours. The NYSE remains open between 9:30 am to 4:00 pm ET for those not in the Eastern Time Zone. In California, the market timings are from 6:30 am to 1:00 pm.
Why does the number of trading days vary?
As mentioned earlier, the number of trading days varies annually. This variation can be due to holidays, weekends, leap years, or significant events. Let’s have a quick look at each of the listed variables.
Holidays
In 2021, the US had several federal holidays like Columbus Day and Veterans Day. However, the stock market didn’t close on all of them except the Good Friday, a non-government holiday. The stock market has nine annual holidays in the year, which are as follows:
Jan 01, 2021 – New Year’s Day
Jan 18, 2021 – Jr. Martin Luther King’s Day
Feb 22, 2021 – Presidents’ Day
Apr 02, 2021 – Good Friday
May 31, 2021 – Memorial Day
Jul 04, 2021 – Independence Day
Sep 06, 2021 – Labor Day
Nov 25, 2021 – Thanksgiving Day
Dec 25, 2021 – Christmas Day
Note: The stock market observed any holiday falling on a weekend on the last day of the previous week or the first day of the following week.
Weekends
As stated previously, the US market has nine official holidays, and you might wonder why the number of trade days changes when the same number of holidays are honored each year? The answer is in the number of weekends every year.
Yearly weekend days vary based on when the year’s first-weekend fall. Even though it’s a leap year, business days get reduced if the year begins on a Saturday.
Major Events
The stock market might close unexpectedly due to major national events not foreseen in the trading schedule. For example, on Dec 05, 2018, the US stock market closed to mourn former President (George H.W. Bush). The market also remained closed in 2012 for two days due to Hurricane Sandy and four days in 2001 due to the terrorist attack on Sep 11, 2001.
Leap Year
Leap years have one extra day every four years. This extra day increases the total number of trading days per year. For example, 2020 had 253 trading days. However, a weekend starting on Saturday can prevent a leap year from adding an extra trade day.
Do you trade every day?
Since now you know how many trading days are there in a year, you might ask if you can trade on each one? Even for day traders, that isn’t certain. Factors that generally restrict the number of business days each year include.
Unexpected events
Important family reunions, dental appointments, illness, or other occasions might keep you from trading. Therefore, the chances are that you might not be able to trade, even if you wish.
Stalemates
A devastating defeat or a losing streak usually necessitates some time off. Doing so allows you to de-escalate and restore emotional control.
Vacations
Being a day trader is demanding, especially when constantly checking your trading screen for excellent trade setups and maintaining open positions. Vacation time is quite beneficial but will undoubtedly decrease your trading days.
Trading Style
If you are a day trader, you probably find yourself entering trade setups on almost all trading days. However, that might not be the case for swing traders. They won’t trade on all trading days unless they find setups that fit their plan, which may not be that frequent.
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Technical indicators help traders to analyze past market trends and forecast future developments. While some traders develop personal indicators, usually with a programmer’s help, others rely on existing ones. As a result, indicators like the moving average and stochastic oscillator, or bespoke indicators, are becoming more popular among traders. ATR is also a widely used indicator that helps analysts determine market volatility. This article discusses the ATR indicator in detail.
What Is the Average True Range (ATR)?
Founded by American technical analyst J. Welles Wilder in 1978, Average True Range (ATR) is a volatility indicator that displays how much an asset changes on average. The technical indicator may assist day traders in deciding whether to enter a trade and where to set stop-loss order. Analysts calculate it by dividing the price range of an underlying asset over a specific period.
How Does Average True Range (ATR) Indicator Work?
The ATR indicator swings up and down when an asset’s price changes. Each period generates a fresh ATR measurement. For instance, the ATR is calculated daily on a one-day (D1) price chart, while it shows the ATR value every minute on a one-minute (M1) time frame.
Formula For ATR Calculation
ATR measures volatility by accounting for price gaps. Typically, traders calculate ATR using 14 periods, such as Minute (M1), Hour (H1), Day (D1), Week (W1), or Month (MN). Each one can calculate ATR. We have the following formula to calculate ATR.
The TRi represents a particular true range in this formula, and “n” shows the relevant period.
How to calculate the Average True Range (ATR)
Finding a security’s actual range value is the initial step in determining ATR. A security’s price range is just its high minus low. Traders can produce more trading signals by employing shorter periods, whereas longer intervals provide fewer indications.
For instance, if you are a short-term trader and want to look at a stock’s volatility over five trading days, you might compute the five-day ATR. Then, for each price range, you determine the absolute maximum of each, such as current high-current low, current high- previous close, and current low-previous close. That’s how you calculate ATR for the most recent 05-days and then average the value to find the first value of 5-day ATR.
What does Average True Range (ATR) Indicator Tell You?
Wilder created the ATR to employ it in the commodity market, but it is equally helpful to trade equities and indexes.
The ATR is a valuable tool for market technicians to initiate and exit trades. Its primary purpose was to help traders calculate an asset’s daily volatility more precisely. However, traders mostly use it to assess volatility generated by gaps and restrict up or downswings.
Traders typically employ ATR to exit a trade regardless of the entry point. One of the popular strategies is called the chandelier exit strategy developed by Chuck LeBeau. The chandelier exit establishes a trailing stop below the stock’s highest high since you opened a position.
In simple terms, the distance between the highest high and the stop level is the multiple of ATR. For example, you can deduct three times the ATR from the trade’s highest point since you entered.
The ATR may also help traders decide how much to trade in a derivates market. The ATR technique to position size can account for both the trader’s risk tolerance and the market’s volatility.
Example of Using the Average True Range (ATR)
Assume the five-day ATR starts at 1.41 and ends at 1.09. You can estimate the sequential ATR by multiplying the former ATR value with the number of days minus one and then adding the current period’s actual range.
Now divide the total by the chosen period. For instance, [1.41*(5 – 1)+(1.09)]/5 is expected to be the second ATR value. You may then use the formula throughout the entire timeframe.
ATR can not predict the breakout direction, but you can add it to the closing price, which will help you enter a buy position if the price rises over that figure the next day, as shown below. Rare trading indications generally mark big breakthrough moments. According to this theory, a price closing the ATR above the previous close indicates a shift in volatility. Buying a stock means you expect it to rise.
Limitations of Average True Range (ATR) Indicator
The ATR indicator comes with two significant limitations.
Being a subjective measure, ATR remains open for interpretation. No ATR measurement can tell you if a trend is poised to reverse or continue in the same direction. Instead, you must compare ATR values to previous readings to gauge a trend’s intensity.
ATR gauges volatility, not price direction, and may produce confusing signals, especially when markets or trends pivot. For example, a quick rise in the ATR after a strong move against the market trend may cause some traders to believe the ATR supports the previous direction when this is not the case.
Conclusion
Unlike RSI or MACD, ATR isn’t a trend indicator. Instead, it’s a volatility indicator that shows the degree of interest or indifference in a move. Large ranges, or True Ranges, typically accompany strong movements. Uninspiring maneuvers might have limited spans. As a result, traders may utilize ATR to verify a market move or breakout. A rise in ATR would imply significant buying pressure and confirm a bullish reversal. A bearish support breach with an increase in ATR would ensure the support break. Like other indicators, ATR can also lead to false interpretation, and traders must not depend solely on it. Therefore, it’s usually best to use along with technical tools and indicators for additional confluence.
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Frequently Asked Questions (FAQs)
Which indicator works best with the ATR indicator?
The Average True Range measures volatility. However, It is typically neglected as a market indicator since it indicates price action strength. Bollinger Bands are well-known indicators that may work the best with ATR.
How is Average True Range (ATR) helpful for traders?
Being a volatility indicator, ATR offers you an idea of how much the market may change. Day traders can use ATR with different technical indicators and strategies to find optimal entry and exit positions.
Which number is more suitable for the Average True Range (ATR) indicator?
Although it isn’t the only technique, the conventional ATR indicator number is 14. You can also consider using a lower number to emphasize recent volatility. More significant numbers allow long-term investors to measure more.
Whether you trade forex or explore profitable opportunities in the stock market, it is challenging to make money only using fundamental data. Therefore, it is pertinent to employ tools that present price activity and market data to improve the odds of profitability. Day traders rely on multiple technical indicators to identify market trends. This piece discusses a few most commonly used momentum indicators in detail.
What Is Momentum Indicator?
The momentum indicator is a technical analysis technique that determines a stock’s price strength. Momentum quantifies how fast stock prices rise or decrease. Traders use momentum indicators in conjunction with other tools and trend indicators to make an informed trading decision.
A stock’s price’s Momentum measures its rise or decline. It is well-known that momentum indicators are pretty helpful in trending markets since markets rise more frequently than they decline. In other terms, bull markets outlast bear markets most of the time.
Average Directional Index (ADI), Relevant Strength Index(RSI) and Moving Average Convergence Divergence (MACD), Rate of Change (ROC), and Stochastic Oscillator are some common momentum indicators.
How to calculate Momentum Indicator?
A stock’s Momentum is the difference between the current and previous closing prices. Technical Analyst Markets John J. Murphy plots a 10-day momentum line against zero-line.
We can use the following formula for calculating the momentum indicator.
Momentum = Current price – Closing price “n” days ago
Momentum can have both positive and negative values. Most traders and analysts use 10-day movement to gauge a stock’s momentum. The zero-line represents the stock’s trendless or sideways movement. The momentum line disperses away from zero when the stock’s momentum grows.
If the stock’s current price is higher than ten days ago, the positive number will be over the zero line. If the current price is below the 10-day price, the negative momentum value will be below the zero-line.
Look at the chart below to see how the RSI momentum indicator predicts price fluctuations.
Understanding Divergence
Divergence often signals the end of a price trend and the beginning of a new one. The divergence occurs when the stock price movement and the indicator disagree. A bullish divergence occurs when price and momentum move in opposite directions, while a bearish divergence occurs when the price and the momentum indicator move upwards. Price retracements are more likely to incur during price divergence.
Divergence helps traders identify and respond to price fluctuations. It signals a shift in the market, and investors must respond. No certainty of reversal exists. So, traders can decide to hold, sell, or partially book profits as the market moves.
Trending Momentum Indicators
Traders can use several momentum indicators. However, below are a few most used momentum indicators.
Moving Average Convergence Divergence (MACD)
Moving Average Convergence Divergence (MACD) involves two indicators. It creates an oscillator by subtracting the longer average from the shorter average, the MACD’s primary indicator. A moving average converges, overlaps, and moves away from another to represent momentum.
The MACD uses two moving averages, as stated previously. However, it is up to the trader or analyst to choose between the 12-day and 26-day EMAs. In this way, a MACD line can operate as a signal line to detect price movement turns.
The MACD’s histogram shows the MACD line’s relationship to the 9-day EMA, which is crucial. Positive histograms above the zero-midpoint but falling towards the midline signals a deteriorating trend. On the other hand, a negative histogram below the zero-midpoint line but climbing towards it suggests a diminishing downtrend.
Image Source: Investing.com
Relative Strength Index (RSI)
RSI is another popular momentum indicator that most traders prefer to use for technical analysis. The RSI is an oscillator that measures price fluctuations and their pace. The indicator oscillates between 0 and 100.
Traders and analysts can notice signals by looking for divergences, failed oscillator swings, and indicator crossings above the centerline.
While the RSI figures rising above 50 suggests a positive uptrend momentum, the RSI values of 70 or more frequently indicate overbought situations.
Similarly, RSI values below 50 signal a negative decline, while RSI values below 30 indicate possible oversold circumstances.
Image Source: Investing.com
Average Directional Index (ADI)
It might be unfair not to mention the usefulness of the Average Directional Index (ADI) either. Welles Wilder created the Directional Movement System (DMS), including the Negative Directional Indicator (-DI) and positive Directional Indicator (+DI).
To calculate the ADX, you need to take smooth averages of the +DI and -DI, which results by comparing the two recurring lows and their relative highs. The Directional Movement System’s index measures the strength of a trend independent of its direction. An ADX rating of 20 or higher confirms a trend. However, any value below 20 is directionless.
Image Source: Investing.com
Rate of Change (ROC)
Rate of Change (ROC) is another momentum indicator that gauges the percentage change between two prices. The ROC indicator is displayed against zero, moving upward for positive price changes and downward into negative territory when the price falls. The indicator detects centerline crossings, overbought/oversold conditions, and divergences.
Image Source: Investing.com
Stochastic Oscillator
Traders use this momentum indicator to compare a stock’s current closing price over time. It measures the market’s pace and momentum without regard to volume or price. Stochastics oscillates between 0 and 100 and help detect overbought and oversold zones. This indicator displays an overbought zone when it is over 80 and an oversold area when below 20.
Image Source: Investing.com
How to trade using Momentum Indicators?
Momentum indicators help spot trading indications. They also assist analysts in validating trades based on price movements, such as breakouts and pullbacks. Traders can utilize momentum indicators in the following ways:
Crossovers: When momentum indicators pass through the centerline or other lines, the activity is called crossovers. Cross overs generate trade signals. For instance, the MACD Line crosses the centerline (zero line). Types of crossovers:
Signal line crossings are a typical MACD signal. A bullish trend develops when the MACD crosses the signal line on the upside. A negative trend happens when the MACD goes down and passes below the signal line.
Center Line Crossovers: A bullish trend occurs when the MACD crosses above zero-line. This happens when the stock’s 12-day EMA crosses over the 26-day EMA. A negative trend occurs when the MACD indicator intersects the zero line and swings lower. However, a trend’s strength may define its life as it may last a few days up to a month.
Alternative strategy:
It is best to enter and exit a position using one or two indicators. To quarantine a trend or entry point, use RSI. For example, the RSI can differentiate entry points from the Trend. Not to mention, the RSI reading should be above 70 during uptrends and above 30 during downtrends.
Trade can also use MACD to exit. For example, MACD can track stock losses in trading trends. If the Trend rises, you can short a position as soon as the price falls below the line. Similarly, traders can use other indicators for intra-day trading besides employing momentum indicators.
Pros and Cons of Using Momentum Indicators
While momentum indicators are pretty helpful in technical analysis, they can also sometimes be a source of inconvenience. Below are some pros and cons of using momentum indicators.
Pros
Momentum indicators reveal an asset’s price trend. They also assess the price movements’ strengths and flaws.
Momentum indicators enable users to make informed trading decisions. In other terms, they assist you in determining market entry & exit points. Price divergences identify the signals.
Momentum indicators work pretty well for trend confirmation.
Cons
Momentum indicators can be misleading when used in isolation.
Newbies might find it challenging to understand and interpret them.
Bottom line
Momentum indicators are helpful to identify the best time to enter or exit a trade based on price momentum. Traders and analysts use momentum indicators in conjunction with other trend-following indicators as additional confirmation.
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Frequently Asked Questions (FAQs)
What is momentum trading?
Momentum trading is a method that aims to enter the Trend as it gains momentum. In simple terms, momentum is the tendency of a price trend to rise or fall for a period, generally considering both volume and the price.
Why is momentum necessary in trading?
Prices follow an upward or downward trend, and the momentum indicator shows the strength of a trend. It is also a leading indicator, as it generates buy & sell signals, helping traders open an appropriate position.
How does Trend differ from Momentum?
While the momentum takes account of a stock’s annual performance (i-e past twelve months), the Trend Following macro style element examines the contract’s performance over the last six and twelve months and takes an average.
Candlestick charts combine data from multiple time scales into a single price bar, making it more helpful than standard lines connecting closing prices or open-high and close low bar. Candlesticks create patterns that forecast price direction. Not to mention, color-coding makes this tool look more sophisticated. Traders widely use Japanese candlestick charting techniques to evaluate financial markets. In this piece, we’ll discuss different candlestick charting techniques in detail.
History of Candlesticks Charting
Munehisa Homma, a Japanese rice dealer, introduced the concept of candlesticks charting patterns in the 18th century. Homma noticed that the rice market was impacted by the emotions of merchants while still admitting the demand and supply impact on the prices of rice.
Later on, the western world became familiar with the candlestick charting patterns when Steve Nison used and explained the notion in his book “Japanese Candlestick Charting Techniques” in 1991.
How does the Japanese Candlestick Charting work?
Compared to bar charts, Japanese Candlesticks give more comprehensive and precise price movement data. They show the supply and demand forces that drive price behavior.
The body of each candlestick reflects the price movement between the opening and closing points of underlying securities. While the upper wick indicates price distance from the body’s peak to the trading period’s high, the lower wick shows the price difference between the body’s bottom and the period’s low.
The security’s closing price determines the candlestick’s bullish or bearishness. If a candlestick closes higher than it opened, the body is white. In this scenario, the closing price is at the top while the opening price remains at the bottom.
The body fills up or turns black if the security traded closed lower than it opened. In this case, the body’s bottom is the candle’s closing price, and the top is its opening price. Modern candlesticks include more colors than white and black, such as blue, red, and green. Traders utilizing computerized trading platforms can select different colors for candlestick while setting up charts.
Reliability of Candlesticks Charting Techniques
Not every candlestick pattern works as anticipated. The popularity of candlestick patterns has diminished their dependability due to hedge funds and algorithms analyzing them. These well-funded traders employ lightning-fast execution against individual investors and fund managers who rely upon popular technical analysis tactics.
The five candlestick patterns below generally tend to work well for determining price direction & momentum. Each one interacts with the surrounding price bars to forecast price changes. Not to mention, these candlestick patterns are time-sensitive in a way that they only function inside the chart’s parameters (for instance, daily, weekly, or monthly), and their effectiveness rapidly diminishes 3 – 5 bars following the pattern.
Performance of Candlestick Patterns
This research is based on Thomas Bulkowski’s 2008 book “Encyclopedia of Candlestick Charts,” which ranked the performance of candlestick patterns. He provides stats for two predicted pattern outcomes, including reversal and continuation. While reversal candlestick patterns indicate a price shift, continuation patterns imply price extension.
The examples below show the empty white candlestick represents a higher closing print than the black candlestick.
Three-line Strike
Three black candles form a bullish three-line strike reversal pattern. Each bar closes near the Intrabars low, posting lower lows. However, the fourth bar reverses widely and closes above the series’ high. The opening point also prints the fourth bar’s low. It anticipates increased pricing with up to 83% confirmation, according to Bulkowski.
Image Source: Candlescanner.com
Three-black Crows
Three black bars close around the Intrabars lows in an upswing, forming a bearish three-black crows reversal pattern. This pattern implies further declines, possibly sparking a broader-scale slump. The most bearish variant starts at a fresh high (A on the chart), trapping purchasers into momentum trades. Bulkowski claims this pattern accurately forecasts decreased pricing 78% of the time.
Image Source: Candlescanner.com
Two-black Gapping
The two-black bearish continuation pattern forms after a noteworthy peak in an upswing, with a gap-down resulting in two black bars reporting lower lows. The pattern implies further declines, possibly sparking a wider-scale slump. Bulkowski claims this pattern accurately forecasts decreased prices with an accuracy of 68%.
Image Source: Candlescanner.com
Abandoned baby
In a downtrend, the black candles series prints lower lows before the emergence of the bullish abandoned baby reversal pattern. For Doji candlesticks having a small range, the market’s gap lowers on the next bar, but no new sellers appear. The pattern gets completed by adding the third bar and anticipates further gains, maybe sparking a larger-scale upswing. This pattern has a 49.73% accuracy rate, as per Bulkowski.
Image Source: Candlescanner.com
Evening Star
The evening-star bearish reversal pattern initiates with a towering white bar leading an upswing to new highs. This results in a tight range candlestick as the market gaps soar, but no new buyers materialize. On the 3rd bar, the pattern gets completed following a gap down, implying further declines and maybe a more considerable slump. Bulkowski claims this pattern accurately forecasts price declines by 72%.
Image Source: Candlescanner.com
Difference between Candlesticks Patterns and Bar Charts
The link between opening and closing price is displayed in candlestick charts by the body color, but it is shown by horizontal lines protruding from the vertical in bar charts.
The bar chart emphasizes the stock’s closing price relative to the prior period’s closure, while the candlestick variant emphasizes the close concerning the same day’s opening.
Traders can get the same information using Japanese candlesticks or bar charts. However, candlesticks are more visible, giving traders a better idea of price activity. They also show the dynamics (supply & demand) affecting price fluctuation over time. The upper and lower wicks of the candle’s body are called the shadows. The body length and shadows of the candlestick are crucial price indicators.
Conclusion
Candlestick patterns attract traders’ attention, but many of their continuation and reversal signals are unreliable in today’s computerized market. Based on Thomas Bulkowski’s data, a small number of these patterns provide traders with actionable sell and buy recommendations. Therefore, traders must learn to distinguish between profitable and unprofitable patterns.
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