Level 2 Patterns & indicators · Part 1/9

Candlestick Reversal Patterns

Reversal patterns made of one to three candles are the best-known part of Japanese charting. They all share one requirement: a trend has to come first. A “reversal pattern” inside a sideways range reverses nothing.

Single-candle patterns

Hammer

A small body at the top of the range, a long lower wick, almost no upper wick. As a rule of thumb, the lower wick is at least twice as long as the body. The color of the body is secondary.

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

Shooting star

The mirror image after a rally: a small body at the bottom, a 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

The body of the second candle covers the body of the first one completely and closes in the opposite direction. Only the bodies count, not the wicks.

Bearish engulfing: a large red candle swallows the body of the preceding green candle — (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 is compared with its neighbors, the clearer the statement. Two tiny candles meet the definition on paper but carry no information – a good test of whether you apply patterns mechanically or with understanding.

Harami

The opposite case: the second candle sits completely inside the body of the first one. A harami is not a reversal signal but a stalling signal – the move stopped gaining ground. What happens next is decided by the following candle, not by the pattern.

Piercing line and dark cloud cover

Piercing line: a green candle opens below the prior low and closes above the midpoint of the red body — (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.

Dark cloud cover: a red candle opens above the prior high and closes below the midpoint of the green 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 real condition. A candle that pushes only slightly into the previous body is not a pattern but an ordinary pullback.

Tweezers

Tweezer bottom: two consecutive candles with nearly identical lows — (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 almost identical lows (tweezer bottom) or highs (tweezer top). Their practical value lies less in the prediction than in the level: the shared extreme is a precise boundary, and once price passes it the idea is wrong. This is a pattern that supplies its own stop.

Three-candle patterns

Morning star: large red candle, small gapped candle, large green candle — 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 that closes deep inside the first body. The deeper it reaches, the more complete the change of mood.

Evening star: large green candle, small gapped candle, large red candle — 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 classic definition requires gaps between the candles. In markets that trade continuously – crypto, FX – those hardly exist. If you find the pattern there anyway, the definition has quietly been 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 trend has to come first	Without a trend there is nothing to reverse
Size relative to the 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. Turning them into a forecast for the coming weeks stretches them far beyond their range.

The next article covers patterns that signal continuation instead of reversal.