Introduction
In finance, because of the amount of information processed per time, a lot of such information is provided in pictorial format for easy and quick understanding. One such application is found in the use of charts to present the movement of prices of assets listed in the markets. Today, charts form the bedrock of technical analysis. With them, traders can easily identify and analyze patterns towards predicting future movements.
Generally, there are 3 types of charts used in investing – Line Chart, Bar Chart and Candlestick Chart. The line chart simply draws a line from one closing price to the next. It exists to just give the overall price movement of an asset or tradable product over an amount of time. However, it is not detailed enough as it only shows the “big picture.”
An improved version is the bar chart which presents information in the form of a bar.
The Candlestick
Finally, there is the candlestick chart. Just as the name suggests, it presents price information per time in the form of a candlestick. The idea of candlesticks first came from Japanese rice trading, but was popularized in the West by Steve Nison.
Anatomy of the Candlestick
The candlestick chart is very detailed as it contains information such as the Open, the Close, the High, and Low prices of each time period.
- High: This is the highest point that the price reached within that particular time frame.
- Close: This is where the price closed at the end of the particular timeframe.
- Open: This is where the price started at the beginning of that timeframe.
- Low: The highest point that the price reached during the time period.
This gave birth to the popular abbreviation OHLC, which stands for Open, High, Low, and Close. The bars on a bar chart vary in length based on how wide the price moved within that specific time.
The length of each candlestick depends on how far and wide the price moved during that particular time frame which the candlestick represents. However, candlestick charts add another twist. They help us determine, very quickly, if the market was bullish or bearish for the particular time.
Hence, if the price of the asset closed (the Close) above the price at which it started (i.e. the Open), then the market was bullish and for this, the candlestick will be painted in either white or green (or any other color you wish to use to depict bullish sentiments).
On the other hand, if the market fell and closed below the price at which it opened, then the market was bearish for the particular period. A bearish candlestick is typically depicted by red or black color, although most charting platforms allow you to customize candlesticks with a color of choice.
Benefits of the Candlestick
There are many benefits to using candlesticks. First, they are much easier to interpret. Just a glance and you know what they are saying. Their being depicted with colors allows you to understand what they mean in no time. Furthermore, candlesticks are useful for good market analysis. For instance, candlestick patterns are very useful in getting important reversal or continuation points in financial markets. An example is the Hanging Man candlestick which usually depicts that the market is about to experience a turnaround.