Candlesticks are one of the most common chart types. They visually show the high, low, open, and close prices for a given time frame. When the price moves up, the candle is white or green, when the price moves down the candle is red or black. Learn how to read and interpret this chart type, and how to utilize it in your trading.

Japanese Candlestick Chart Colors

Japanese Candlesticks show the high, low, open, and close price of an asset, as well as highlight whether the pair finished higher or lower, over a specific period. Candlesticks are used on all timeframes—from a 1-minute chart right up to weekly and yearly charts.

Candlesticks use two colors, such as green and red, blue and red, or white and black. The charts on TradingView use a green and red color scheme for the Japanese Candlesticks. You are free to change these colors to whatever you like. Just right-click on the chart>Settings>Symbol>and then select your Body, Wick, and Borders colors.

Charts provided by TradingView, the charts I personally use.

Figure 1. Example of Candlesticks on Daily Chart

Red and green has become a default for many charting platforms, although a white or blue up candle is also common, as is a black down candle.

How Japanese Candlesticks are Created

Color is important in Japanese Candlesticks. A green bar (sometimes blue or white) indicates the price closed higher than the open price of that time period. A red bar indicates the price closed lower than the open price of the time period. The candles can also be colored based on how they closed relative to the prior close.

To understand how this works, let’s look at how each bar is constructed.

Figure 2. Example of How Japanese Candlesticks are Constructed and Colored

Each candle provides information on the open, close, high, and low of an asset’s price. Each candle reflects the time period you’ve selected for your chart. For example, in figures 1 and 2, a daily chart is used, which means each candle shows the open, close, high, and low price information for a one-day period. When the day is finished or closes, the bar is “complete” a new daily candle starts when the market opens again. The same process occurs whether you use a 1-minute chart or a weekly chart.

The open and close are marked by the “fat” part of the candlestick. This is called the real body, and represents the difference between the open and close. If the close is higher than the open the candle is green; if the close is lower than the open the candle is red.

The open and close aren’t necessarily the high or low price points of the period. The high and low prices for the period are marked by a “tail” or “upper shadow” and “lower shadow.” The high point of the upper shadow shows the highest price the asset traded at during that period, and the low point of the lower shadow shows the lowest price the asset traded at during that period.

Figure 3. Japanese Candlestick Construction

If there are no upper or lower shadows, it means the open and close were also the high and low for that period.

Occasionally, you’ll see bars that are nearly all upper and/or lower shadow, with very little real body.

Figure 4. Japanese Candlesticks with small real bodies

On the left example, the upper shadow reflects the highest price hit during the candle’s time period (one day in this case), the lower shadow shows the lowest price hit during the day, and the small real body shows that the price closed very near to where it opened.

To see the exact prices of the open, close, high, and low you can click on a candlestick and you will see all the prices listed along the top or bottom of the trading screen on most platforms. On TradingView, you see the prices along the top, and on MetaTrader you’ll see the prices along the bottom of the screen.

Japanese Candlestick Interpretation

Due to the highly visual construction of candlesticks, there are many candlestick patterns that traders use for analysis and to establish trade signals.

Here are some general principles for understanding how to interpret candlestick charts.

• A single candlestick doesn’t give us much information to go off of; it is only very short-term information. The information is only good until the information from the next candle comes out. Therefore, candlesticks are best used in conjuction with other analysis methods such as chart patterns, trendlines, technical indicators, price action analysis, or fundamental/earnings suprises, for example.
   
• A long real body indicates stronger pressure than a small real body. For example, a long green body represents stronger buying pressure than a small green body. A long red body represents stronger selling pressure than a small red body.
   
• A long lower shadow indicates sellers tried to push the price down, but ultimately the buyers succeeded in pushing the price back up and were strong at the close.
   
• A long upper shadow indicates buyers tried to push the price up, but ultimately the sellers succeeded in pushing the price back down and were strong at the close.
   
• A stock that closes very near where it opened, with upper and lower shadows means that buyers and sellers are evenly matched. Such a state doesn’t usuually last for long, so which way the price moves after that (above the high or low) can help assess short-term direction.

For a list of specific candlestick patterns and their basic interpretation, check out Steve Nison’s book entitled Japanese Candlestick Charting Techniques, or see a list of candlestick patterns on his website, here.

Candlestick patterns include dojis, abandoned babies, dark cloud covers, and falling windows, and other creative names. They are not strategies on their own, but can be used as potential entry signals or triggers when combined with a well-research strategy.

Last Price or Current Price on a Candlestick Chart

The last price, or the price that shows as current on the price axis of a candlestick chart, is the last transaction price when trading stocks, ETFs, futures, and most other assets. Whatever the last transaction price was, that is what the price will show on the y-axis of your chart.

The exception is forex. Most forex broker’s charts are based on the bid price. Therefore, the price you always see on the y-axis of your candlestick chart is the bid price, NOT the last transaction price.

The bid price is the highest advertised price someone is willing to buy at. The ask or offer price is the lowest advertised price someone is willing to sell at.

The Secret Life of Charts

Japanese candlesticks are useful, although you should be aware of one drawback which actually applies to pretty much every type of chart out there, not just candlesticks.

Within each candle you see in hindsight the market was gyrating back and forth, but the bar/candlestick only records the open, high, low, and close for the time period. Much more took place within the bar than the high, low, open, and close. If a trader only looks at historical data, breakouts may appear clean and easy to trade, yet in real-time, the market may move back and forth over the breakout point several times (all within one bar). When the bar closes, it looks like a clean breakout occurred, but in real-time maybe it wasn’t.

Price bars in hindsight are a summary of what happened, and reveal a lot, but they don’t reveal everything. This is why practicing in a demo account is required before you move to live trading. Looking at charts and examples isn’t the same as trading the real-time market.

It’s for this reason that I don’t wait for candles to complete when I am trading my various strategies (unless specifically stated). Price bars/candles are arbitrary. For instance, if there’s a big down candle, and then the next candle starts to rise dramatically, if it crosses above the open of the previous down candle, to me that’s a bullish engulfing pattern; if that’s my trigger, I enter the market without waiting for the candle to complete. It’s possible the market could drop right then, and in hindsight, the engulfing pattern wouldn’t be easy to spot, yet in real-time it happened.

This is also the reason why some back-tested methods that are optimized on historical data do very well in theory, but then crash and burn in real-time trading.

Let’s say a day trader wants to buy a breakout when the price crosses above resistance at $100 (to keep the numbers easy). They buy when the price crosses above the first time, getting in at $100.05. The price quickly drops to $99.90 and they get out because the price didn’t keep rising as expected on the breakout. Shortly after the price rallies above $100.05. Maybe this time it will run, so they jump back in and buy. The price drops again, and they get out at $99.85. Let’s say this happens again. They buy, and it falls. Three losing trades, finally, on the fourth trade, the price does take off and closes the day at $100.65.

Our trader experienced this, but it is possible that a chart in hindsight won’t show these losses. A daily chart would just show the price moving up and closing at $100.65. It looks like it happened seamlessly (but it didn’t). Even an hourly, 15-minute chart, or even a 1-minute chart, may not show that the price whipsawed back and forth multiple times.

The candles just show the summary of where the price opened and closed, and the high and low in between…but the candle doesn’t show in which order the prices occurred, and how many times the price oscillated within the candle’s high and low before closing.

Japanese Candlestick – Final Word

Japanese Candlestick charts are the preferred choice of many traders since the price moves are easy to see and trade signals can be spotted quite quickly due to the colors. Play around with the free charts offered on TradingView to get a feel for candlesticks and how to interpret them.

I will be adding to this article over time, highlighting some of my favorite candlestick entry points and patterns.