Generally, Japanese Candlesticks form the basis of most traders’ technical analysis. A candlestick is something that most people are aware of if they have been exposed to trading so it’s very likely that you already know what candlesticks are. However, we will cover the basics in this section now.
Candlesticks are an extremely popular method that was pioneered by Steve Nison. He has many courses that get very comprehensive so if you want to learn everything about candlesticks a simple Google search will take you to him. One thing that we would point out is that we have never seen him publish any trading results so it’s most likely the case that he makes his money from the sale of his candlestick training courses and books
It’s necessary to know every little nuance of candlesticks because, as we will say over and over, fundamentals and sentiment are what move prices and every other bit of analysis is secondary including candlestick analysis.
We are going to give you the basics because that is really all you need in the real world of trading, the rest is academic in nature. But of course, you are free to dig as deep as you would like into any subject that interests you.
The basics of a candlestick are very simple. A candlestick consists of and visually shows the open, close, high, and low as seen in the image below. If the price closed higher the close will be above the open as is the case for the candle on the left. If the price closed lower for the particular time frame being measured then the close will be below the open just like the candle on the right.
An image of basic up and down candlesticks.
This picture can be represented by virtually any time frame you can think of from a 1 minute candle to a 1 month candle. This means that for each candle you see on the chart, they will all show you the same amount of time that passed and the price action that took place in that time. So if you are looking at a 15 minute chart, each candle on the chart will represent 15 minutes of price action for example.
As an introduction to the history of candlesticks, Japanese candlesticks come from 17th century Japan which historically was known as a nation of warriors. This explains the use of military terminology with regard to candlesticks and the various patterns they make. It’s also worth noting that many of the same military skills required in combat are also required in trading which are covered in more detail in the Wiki on Trading psychology.
The concept of Japanese candlesticks is credited to the legendary Munehisa Homma as seen in the image below. He was believed to have created vast wealth for himself by trading rice futures in the 17th century.
An image of Munehisa Homma whom is believed to be the original creator of Japanese candlesticks charting method
Having been given control of the family business in the middle of the century Homma began trading at the local rice exchange in the city of Sakata. Sakata was the collection and distribution center for rice in Japan at that time. Following the death of his father, Homma was given control of the family’s financial assets despite being the youngest son.
Subsequently, Homma went on to Japan's largest rice exchange which was called the Dojima Rice Exchange in Osaka and began trading rice futures.
An image of the Dojima Rice Exchange in Osaka Japan.
The Homma family had a large rice farming estate and because of this they had all the information about the rice market readily available. In addition to this, Homma kept records of the yearly weather patterns and environmental conditions.
In order to learn about the psychology of investors Homma researched rice prices for many decades. He also set up his own communications system which at prearranged times he placed men on top of roofs to send signals from Osaka to Sakata.
After dominating the Osaka markets, Homma went on to trade at a regional exchange in Edo which is now known as modern-day Tokyo and he used his knowledge of the market to amass tremendous wealth. He is also said to have had over 100 consecutive profitable trades. In later life, Homma became a consultant to the government and was given the title of samurai.
Homma died in 1803 and his trading principles evolved into the candlestick method of charting currently used in Japan and around the financial world. The success and name that Homma built up with his name ensure that traders today still implement his candlestick charting methods.
These days professionals use candlesticks mainly as a method to display how the price has behaved at certain levels. We need to ask ourselves questions such as; did the price trade straight through a level or did the price encounter strong resistance, or does the price look like it’s becoming exhausted at these current levels? These items make up only a small part of our overall analysis but in their place candlesticks can provide some useful insights.