Trading Indicators and Candlestick Patterns for Technical Analysis
A pushing wave is one that follows the trend, while a corrective wave goes against the trend. In a bullish market, we expect each new peak to set a record in trading volume and vice versa in a bearish market.
Trade Volume
This is a vital figure that, apart from the stock prices, is the only independent statistic. Trading volume should rise with a pushing wave and decrease with a corrective wave. A pushing wave is one that follows the trend, while a corrective wave goes against the trend. In a bullish market, we expect each new peak to set a record in trading volume and vice versa in a bearish market.
Technical indicators function better in a rising market than in a falling one, as downturns are more unpredictable, sharp, and fast. In terms of trading volume, it doesn't take a lot of money to cause a downturn; declines can even occur due to lack of interest. For instance, the last day of the month is often a quiet day, which can lead to a drop simply because of inactivity. January is generally considered a good month for the markets.
Trading volume as an indicator isn't unequivocal since for every buyer there is a seller, but we examine the strength of each side, who is more determined. The assumption is that in a rising market, the buyers are dominant because to cause the market to rise, more and more buyers need to come in, and vice versa in a downturn. Therefore, an increase in trading volume in a rising market is a positive indication; the buyers are dominant.
A decrease of traded volume in a rising market means the fuel of the rise – the buyers – are running out. This is the difference between actual indicators – a rising stock, and indicators suggesting a change in trend soon. If a stock is rising and trading volume is decreasing, and the stock is close to a resistance level, the likelihood that the resistance will work and stop the stock is high, there are two indicators supporting each other. If the stock price is rising and trading volume is increasing, and the stock is approaching a resistance level, there is a chance that the stock will break the resistance level, therefore we look at each resistance level to see how the stock reaches it in terms of trading volume. The chance to break the resistance level should be examined according to the trading volume that will be at that time.
What happens when the stock reaches a new peak and the trading volume has not reached a new peak? This phenomenon is called divergence. In other words, the indicator diverges from the trend and starts to decline. Such divergence is a hint of an imminent trend change. The stock may continue to rise because we don't know when the trend will end, and it is up to each person to decide what to do – you could reduce positions, you could carefully follow and sell with another indicator, or you could even sell today.
Japanese Candlesticks
The most useful and visually clear chart.
Each time unit is represented by a candlestick composed of a body and wicks. The body of the candlestick represents the distance between opening and closing prices. If the closing price is above the opening price – the body is hollow, if the closing price is below the opening price – the body is filled. The highest point represents the highest price, and the lowest point represents the lowest price.
There can be variations of the candlestick, there are about 30 variations of a single candlestick. Each candlestick carries a message.
The thing that stands out the most in the candlestick method is the body, the method emphasizes the gap between opening and closing, while in bar charts the gap between the highest and lowest stands out. If there are two interpretations, it means that different conclusions can be reached using different charts.
Everything we've learned about chart analysis applies here too. The beauty of this method is that a single candlestick, or a combination of 3, 4, or 5 candlesticks, has statistical significance. All you need to do is remember these combinations and understand the rationale behind these shapes.
Hammer and Hanging man
These are two patterns that look the same, with the only difference being that the Hammer appears after a sharp uptrend, and the Hanging Man appears after a sharp downtrend.
The pattern is characterized by having a small body and a long wick, with the body situated at the top. The body can be either black or hollow, if it's a reversal from a downtrend to an uptrend it's preferable for the body to be hollow, and if the reversal is from an uptrend to a downtrend it's preferable for the body to be filled.
The trend change is relative to the size of the trend that's changing. If the Hammer appears on a support line it's better.
The rationale of the pattern is that it looks like any other day, but eventually, the buyers are the ones who managed to push upwards. There is a good chance that the day will start to rise. If the trade volume is large, it's even better. If you see a Hammer but with a tiny trade volume, these days we do not regard the patterns, but if it's a large trade volume, it supports the pattern.If there is a downtrend, and the trade volume is also decreasing, and you see a Hammer, it's a clear indication to buy.
Engulfing
A pattern of two candlesticks. If it's a reversal from a downtrend to an uptrend, you'll see a small black body that is engulfed by a large white body.
