When trading on the foreign exchange market, traders tend to look for signals and indecision candlesticks on the chart. The latter are the most popular elements of technical analysis. There are various candlestick patterns, but the most reliable Japanese candlesticks appear only rarely.
These include indecision candlesticks such as the Dragonfly Doji and Gravestone Doji. These candlesticks perform exceptionally well on higher time frames, often generating profits of up to 10%–12%. This article explains how to use candlestick patterns to make informed trading decisions.
The article covers the following subjects:
Major Takeaways
What are indecision candlesticks?
On the chart, an indecision candlestick represents a candlestick pattern that indicates a tight balance between buyers and sellers, and the price can move either up or down.
What are the differences between various types of indecision candlesticks?
Most indecision candlesticks are varieties of doji candles, differing only in the length of their shadows.
How do indecision candlestick patterns affect the market?
An indecision candlestick is a reversal and continuation pattern. It often appears in the middle of a primary trend and signals that traders should prepare to close their positions or open new ones.
How do uncertainty models work?
Depending on the type of indecision candlestick, you can place a pending order for a short or long trade at the level of the pattern’s lows or highs, depending on the prevailing trend.
How to identify candlesticks on a chart?
The pattern consists of a single candlestick with a small body or no body at all and long wicks or one shadow.
Features of indecision candlesticks
The market indecision candlestick is fairly easy to identify on a chart. It appears frequently on all time frames. These candlesticks are often used to close trades opened during the trading session.
Advantages of indecision candlesticks
It has a very simple and straightforward structure and can be used on any time frame. It also gives a signal to close positions.
Disadvantages of indecision candlesticks
They appear too often on the chart, which can confuse traders. They are very easy to confuse with other formations, often have no clear profit-taking levels, and require constant monitoring of the market.
Applicable time frames
Indecision candlesticks can be used on any time frame, but, as with most candlestick patterns, they are more likely to occur on higher time frames.
Stop-loss order management
Stop-loss orders can be set immediately after the candle pattern is complete. This should be done once the order has been opened.
Understanding Indecision Candles
Indecision candlesticks play a particularly significant role in the field of technical analysis. These tools are often used by traders as a signal to close trades and open new positions.
There are several types of indecision candlesticks, but all of them are formed according to the same principle: they are small bodied candlesticks with long shadows.
These candlesticks reflect the ongoing battle between sellers and buyers during a specific period, ranging from one minute to a month or even a year. As the candlestick formation progresses, the struggle persists, resulting in either a complete equality or a slight advantage for one of the sides.
The formation of an indecision candle is characterized by long shadows or a single lower or upper shadow with almost no body. The direction in which the price will begin to move after the completion of such a candlestick will determine a new trend.
Interpretation of Indecision Candlesticks and Market Context
Japanese indecision candlesticks generally do not appear in a stable market. These candlesticks require large trading volumes to form, which can disrupt the smooth progression of the underlying trend. Indecision candlesticks frequently emerge during the release of significant macroeconomic indicators, particularly in the context of currency market trading. When it comes to stock trading, the candlesticks often appear when quarterly reports or fundamental economic news are released. This pattern is a fundamental component of price action trading.
Balance Between Buyers and Sellers
If you want to correctly identify an indecision candlestick on a chart, you need to understand how it is formed. As a rule, each indecision candlestick goes through three stages. Here is the example in the screenshot below:
Bullish pressure. At this stage, one side has a clear advantage in the market. In our case, it is the buyers who are pushing the price higher, forming a large white body.
Bearish counterattack. Once bullish momentum has lost steam, bears come into play, engulfing the entire volume.
Fragile balance. In the third stage, bulls enter the market and engulf part of the bearish volume, and the candlestick body becomes thin.
This tug-of-war can continue for a long time. However, the candlestick formation period will eventually end, leaving no obvious winner. The candlestick indicates a state of equilibrium, which may be shattered with the next candlestick.
Potential Trend Reversal or Continuation
Once the indecision candle has finished forming, it marks the time to open a position.
Despite the fact that there are several types of indecision candlesticks, each with its own characteristics, the principle of entering the market remains the same.
If you see Doji, Spinning Top, and Long-Legged Doji candlesticks, the next candlestick will likely exceed the upper shadow. In other words, if the quotes move above the upper shadow, an uptrend will likely begin.
If an indecision candlestick, such as a Gravestone Doji or a Dragonfly Doji, has formed on the chart, the future trend will most likely form in the direction of the candlestick’s body. If the following candle goes beyond the shadow, it is better to refrain from opening trades.
Types of Indecision Candlesticks Patterns
In classical technical analysis, there are five main indecision candlesticks, four of which are variations of a Doji. First, there is the Doji candlestick itself, which is also the most common one. There are also the Dragonfly Doji, Gravestone Doji, and Long-Legged Doji candles. The fifth indecision candlestick is a Spinning Top.
Gravestone Doji
A Gravestone Doji is a type of Doji candlestick, signaling that bulls fail to continue or reverse the current price movement. The open and close prices are almost equal.
This candlestick often appears at the peak of an uptrend, giving the first trend reversal signal. However, a Dravestone Doji can sometimes appear during a downtrend.
There are two main trading strategies. If a Gravestone Doji appears at the top of an upward trend, it is a reliable indicator of a trend reversal, and it is better to close your long trades. If the candlestick appears near the lows, it may signal that downward momentum will continue, and there is no threat to your trades yet.
Dragonfly Doji
A Dragonfly Doji candle is the opposite of the Gravestone Doji. It signals that bears fail to continue or reverse the trend. The open price of this candlestick is equal to the closing price.
This candlestick often appears at the end of a downtrend and signals a potential reversal. However, the Dragonfly can also appear during an uptrend. In this case, this candlestick will indicate that bears have failed to reverse the bullish trend.
As a rule, there are two main strategies. If the Dragonfly Doji appears at market lows, the downtrend may reverse, forcing you to close your short positions. If it emerges at market highs, the upward trend may continue, and you can keep your long trades open.
Long-Legged Doji
A Long-Legged Doji is a variation of a classic Doji candle with long shadows and a thin body. This candlestick points to indecision on the side of both buyers and sellers. As with the previous candlesticks, the opening and closing prices are almost equally matched.
This candlestick pattern often appears during periods of elevated market volatility and indicates a strong opportunity to open new positions. In my opinion, the Long-Legged Doji is the strongest of all indecision candlesticks.
There are two main strategies. First, if the price consolidates above the Long-Legged Doji candlestick’s high after it closes, the uptrend is likely to continue. Conversely, if the price consolidates below the candlestick’s low, the downtrend may continue.
Spinning Top
A Spinning Top candle is an independent technical analysis pattern that is often classified as an indecision candlestick because after its formation, the price often moves sideways. The Spinning Top has long shadows and a small body. Unlike a Doji, it still indicates a marginal advantage for either buyers or sellers.
This candlestick pattern often appears during periods of high market volatility. Traders use it as a signal to close trades.
In my opinion, this candlestick gives a very weak signal, so confirmation from at least two oscillators is necessary.
Strategies with the Spinning Top candlestick are similar to those with the Long-Legged Doji candlestick. However, remember that trading on breakouts only works if the candlestick body is at least three times shorter than the upper or lower wick.
Harami Pattern
A Harami reversal pattern is a two-candlestick pattern that signals a change in the market trend.
The first candlestick of the Harami pattern has a large body that is either white or black. The second candlestick is a signal candlestick and often looks like a Spinning Top or a Doji. The pattern sometimes resembles a Dark Cloud Cover or a Shooting Star.
There are two types of Harami: bullish and bearish.
Bullish Harami appears in downtrends. It represents a large black (bearish candle) candlestick with a small white (bullish candle) Spinning Top candlestick. This candlestick pattern signals a possible reversal to an upward trend.
Bearish Harami appears during uptrends. This bearish pattern features a large white candlestick and a small black Spinning Top candlestick. This candlestick pattern indicates a possible reversal to the downside.
Trading Strategies and Entry Points
Let’s consider two strategies to understand how to open positions using indecision candles.
Long-Legged Doji Breakout Trading Strategy
This strategy is extremely popular among professional traders who trade on highly volatile markets, as it is extremely reliable and effective.
The first thing you need to do is identify a Long-Legged Doji or a Spinning Top with long shadows on the price chart.
The working time frame for this strategy is H4, but you can also trade on D1 or H1 charts.
After the Doji appears on the chart, wait for the candlestick to close and the next candlestick to start forming.
After the candlestick closes, confirm that it is indeed a Long-Legged Doji. Proceed to set opening and closing orders. This strategy is carried out only with pending orders, which simplifies the trading process.
Buy Stop and Sell Stop orders are set at resistance levels, near the high and low of the Doji.
A Stop-Loss order is set at the Doji body for both trades.
As for a Take-Profit order, add the distance from the Doji body to its maximum/minimum point to the high/low of the shadow.
When one of the orders is triggered, the opposite order that has not yet been opened should be removed.
Now you need to wait for the trade to close at Take Profit or Stop Loss. No other steps are required. Usually, such trades close with a profit with a 92% probability.
Indecision Candlesticks Combined with MACD and RSI
This strategy shows how to use indecision candlesticks with MACD and the RSI, employing the technical indicators to confirm the trading signals obtained.
During the trading session, add the MACD and RSI oscillators to the candlestick chart. The MACD settings are standard – 12,26,9. However, the RSI requires adjustment according to the time frame. In this case, H1 is used, then the overbought and oversold zones should be expanded to 80 and 20 from the standard 70 and 30, and the indicator period is set to 8 or 9.
When all settings are complete, wait for a candlestick to appear on the chart.
In our case, a Gravestone Doji emerged, which often gives a sell signal.
Both technical indicators are used to confirm an entry point into a short position.
MACD should form a bar that closes below the previous one, and the RSI should exit the overbought zone or move below 80.
If all conditions are met, you can open a short trade.
The signal to close the trade is the opposite to the fifth step: MACD shows a bar that closes above the previous one, and the RSI leaves the oversold territory and exceeds the 20 threshold.
If all conditions are met, you can close your trade with a profit.
Conclusion
Japanese candlesticks are a powerful technical analysis tool. They can tell when to close a trade and open a new one. Some candlesticks, such as the Long-Legged Doji, can become part of a standalone trading strategy.
However, no candlestick pattern provides an entirely reliable signal. Their efficiency depends on various factors, including a time frame, market volatility, and a trading instrument. Remember that your trading results hinge on the chosen set of patterns, indicators, and risk management rules.
The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteFinance broker. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2014/65/EU.
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