Level 2 Patterns & indicators · Part 1/9

Candlestick Reversal Patterns

Reversal patterns built from one to three candles are the best-known part of Japanese charting. All of them share one requirement: they need a preceding trend. A “reversal pattern” inside a sideways range reverses nothing.

Single-candle patterns

Hammer

(1) A hammer forms when price falls hard during the session but the low gets bought back — the close returns near the open. The long lower wick is the message: buyers stepped in down there. Without a preceding downtrend the very same candle means nothing.

A small body at the top of the range, a long lower wick, almost no upper wick. Rule of thumb: the lower wick is at least twice the body. The body’s colour is secondary.

The message is not in the name but in the sequence: price fell substantially and was bought back entirely. The same shape after a rally is called a hanging man and is read as a warning – identical candle, different meaning, purely because of context.

Shooting star

(1) The mirror image of the hammer: price runs far up during the session, then gives it all back. The long upper wick shows buyers found no takers up there. Only meaningful after a rally.

The mirror image after a rally: small body at the bottom, long upper wick. The market tested higher prices and rejected them. After a downtrend the same shape is called an inverted hammer.

Two-candle patterns

Engulfing

(1) The small red candle continues the downtrend. (2) The next green candle opens lower and closes above the previous open — its body fully engulfs the one before. In one sentence: a whole day of selling was taken back in a single session.

The second candle’s body fully engulfs the first one’s body and closes in the opposite direction. What counts are the bodies, not the wicks.

(1) The small green candle extends the rally. (2) The red candle opens higher and closes below the previous open. The larger the engulfing body relative to its neighbours, the cleaner the break — an engulfing built from two tiny candles is barely more than noise.

The larger the engulfing candle relative to its neighbours, the clearer the statement. Two tiny candles satisfy the definition formally but carry no information – a good test of whether you apply patterns mechanically or with understanding.

Harami

(1) A large candle in the direction of the trend. (2) The next candle stays entirely within the previous body. Harami is not a reversal signal but a stalling signal: the move stopped gaining ground. What happens next is decided by the following candle.

The inverse case: the second candle sits entirely inside the first one’s body. Harami is not a reversal signal but a stalling signal – the move stopped gaining ground. What follows is decided by the next candle, not by the pattern.

Piercing line and dark cloud cover

(1) A clear red candle. (2) The next one opens even lower — the downtrend looks confirmed — but closes above the midpoint of the red body (dashed line). Opening weakness was not just recovered but overcompensated. A close below the midpoint is not a piercing line.

The second candle opens beyond the previous extreme and closes above (or below) the midpoint of the previous body.

(1) A clear green candle. (2) The next opens higher, turns, and closes below the midpoint of the green body (dashed line). Anyone who bought the opening high is underwater by the close — that, not the shape, is what makes the pattern relevant.

The midpoint is the actual condition. A candle that pokes only slightly into the previous body is not a pattern but an ordinary pullback.

Tweezers

(1) and (2) mark two lows at practically the same price. The pattern's value is not its shape but the precise level it hands you: below the shared low the idea is refuted. A pattern that supplies its own stop is more workable than one that does not.

Two candles with nearly identical lows (tweezer bottom) or highs (tweezer top). Their practical value lies less in prediction than in the level: the shared extreme is a precise boundary below which the idea is refuted – a pattern that supplies its own stop.

Three-candle patterns

Three candles tell a sequence: (1) selling pressure, (2) a stall at a lower level — the small body shows neither side is gaining ground, (3) recapture that reaches deep into the first body. The further the third candle closes into the first, the more complete the change of tone.

The morning star consists of a large down candle, a small candle at a lower level and a large up candle closing deep into the first body. The deeper it reaches, the more complete the change of tone.

The counterpart to the morning star at the end of a rally: (1) buying pressure, (2) a small body at a higher level — the advance no longer carries, (3) a red candle that unwinds most of the first candle's gain.

The evening star is its counterpart at the end of a rally.

The classical definition requires gaps between the candles. In continuously traded markets – crypto, FX – those barely exist. Finding the pattern there anyway means the definition was quietly loosened. That is allowed, but it is then a different pattern from the one that was studied.

What applies to all of them

Condition	Why
A preceding trend	Without a trend there is nothing to reverse
Size relative to surroundings	A pattern of below-average candles is noise
Position at a known zone	The same pattern counts for more at the edge of a range than in the middle of nowhere
Confirmation by the next candle	The pattern describes the past, not the next period

And the most important limit: candlestick patterns are short-term. They describe the balance of one to three periods. Deriving a weekly forecast from them stretches them by orders of magnitude.

The following article covers patterns that signal continuation rather than reversal.