THE POWER OF JAPANESE CANDLESTICK CHARTS

THE POWER OF JAPANESE CANDLESTICK CHARTS

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THE POWER OF JAPANESE CANDLESTICK CHARTS Advanced Filtering Techniques for Trading Stocks, Futures, and Forex REVISED EDITION Fred K. H. Tam

Cover image: istockphoto.com/p2007 Cover design: Wiley Copyright 2015 by John Wiley & Sons Singapore Pte. Ltd. Published by John Wiley & Sons Singapore Pte. Ltd. 1 Fusionopolis Walk, #07-01, Solaris South Tower, Singapore 138628 All rights reserved. First edition published by Pelanduk Publications in 2001. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise, except as expressly permitted by law, without either the prior written permission of the Publisher, or authorization through payment of the appropriate photocopy fee to the Copyright Clearance Center. Requests for permission should be addressed to the Publisher, John Wiley & Sons Singapore Pte. Ltd., 1 Fusionopolis Walk, #07-01, Solaris South Tower, Singapore 138628, tel: 65-6643-8000, fax: 65-6643-8008, e-mail: enquiry@wiley.com. Limit of Liability/Disclaimer of Warranty: While the publisher and author have used their best efforts in preparing this book, they make no representations or warranties with respect to the accuracy or completeness of the contents of this book and specifically disclaim any implied warranties of merchantability or fitness for a particular purpose. No warranty may be created or extended by sales representatives or written sales materials. The advice and strategies contained herein may not be suitable for your situation. You should consult with a professional where appropriate. Neither the publisher nor the author shall be liable for any damages arising herefrom. Other Wiley Editorial Offices John Wiley & Sons, 111 River Street, Hoboken, NJ 07030, USA John Wiley & Sons, The Atrium, Southern Gate, Chichester, West Sussex, P019 8SQ, United Kingdom John Wiley& Sons (Canada) Ltd., 5353 Dundas Street West, Suite 400, Toronto, Ontario, M9B 6HB, Canada John Wiley& Sons Australia Ltd., 42 McDougall Street, Milton, Queensland 4064, Australia Wiley-VCH, Boschstrasse 12, D-69469 Weinheim, Germany ISBN 978-1-118-73292-2 (Hardcover) ISBN 978-1-118-73294-6 (epdf) ISBN 978-1-118-73295-3 (epub) ISBN 978-1-118-77714-5 (o-book) Typeset in 12/14 pt, Perpetua Std Regular by Aptara Printed in Singapore by C.O.S Printers Pte. Ltd. 10 9 8 7 6 5 4 3 2 1

CONTENTS v Index of Reversal Index of Continuation Preface Acknowledgments ix xi xiii xxi PART I BASIC CANDLESTICK TECHNIQUES CHAPTER 1 Introduction 3 Historical Background 4 Reasons Candlestick Charts Are So Popular Today 5 Construction of the Candlestick Chart 7 Construction of a Bar Chart 8 CHAPTER 2 Single Candle Types 11 Single Candles 11 The Doji 35 CHAPTER 3 The Umbrella Group 59 White Hammer or Hanging Man (Also Called White Umbrella Candle) 59 Black Hammer or Hanging Man (Also Called Black Umbrella Candle) 60 White Inverted Hammer or Shooting Star (Also Called Inverted White Umbrella Candle) 60

vi CONTENTS Black Inverted Hammer or Shooting Star (Also Called Inverted Black Umbrella Candle) 61 CHAPTER 4 Reversal 67 Introduction 67 Index of Reversal 69 Single Candlestick 70 Double Candlestick 90 Triple Candlestick 119 Multiple Candlestick 156 CHAPTER 5 Continuation 171 Introduction 171 Double Candlestick 172 Multiple Candlestick 185 Windows (Gaps) 192 CHAPTER 6 Summarizing Part I 209 Can One Trade the Market and Profit Just by Applying Candlestick Chart Analysis? 210 Candlestick Chart Analysis Is Best Used in Conjunction with Technical Indicators 210 Conclusion 211 PART II ADVANCED CANDLESTICK TECHNIQUES CHAPTER 7 Filtering with Western Indicators 215 Using Filtering or the Rule of Multiple Techniques 216 Scenario 1: In the Case of a Bull Market or Bullish Trend 216 Scenario 2: In the Case of a Bear Market or Bearish Trend 216 Scenario 3: In the Case of Overbought or Oversold Situations 216 Filtering with Moving Averages 217 Filtering with MACD (Moving Average Convergence Divergence) 218 Filtering with Relative Strength Index 221 Filtering with Stochastic 224 Filtering with Momentum 229 Filtering with Williams Percentage Retracement 229 Filtering with Directional Movement Index 232 Filtering with Commodity Channel Index 235 Filtering with Volume 238 Filtering with Bollinger Bands 238 Filtering with Elliott Wave Theory 240

CHAPTER 8 P.I. System Trader 247 The P.I. System Trader Mimics Candlesticks 248 Trading Rules for P.I. System Trader 250 Advantages of P.I. System Trader 250 CHAPTER 9 Sakata s Five Methods 253 Sakata s Constitution and Sakata s Five Methods 253 Sakata s Constitution (Soba Sani No Den) 254 The Japanese Method of Three 254 Conclusion 267 CHAPTER 10 Computerized Candlestick Forecasting 273 The Era of Computerized Candlestick Scanning 274 Features of the Nison Candle Scanner 275 Nison Candle Highlighter on MetaTrader 4 Platform 280 CHAPTER 11 Conclusion: Facts about Candlesticks 285 About the Author 287 Reading List 289 Index 291 vii CONTENTS

INDEX OF REVERSAL PATTERNS ix Single Candlestick Bullish Reversal Bearish Reversal Pages Spinning Top Spinning Top 70 72 Hammer Hanging Man 72 73 Inverted Hammer Shooting Star 75 78 Doji at the Bottom Doji at the Top 78 81 Bullish Meeting Line Bearish Meeting Line 81 84 Bullish Belt-Hold Line Bearish Belt-Hold Line 84 87 Double Candlestick Bullish Reversal Bearish Reversal Pages Bullish Engulfing Bearish Engulfing 90 91 Fred Tam s White Inside Out Up Fred Tam s Black Inside Out Down 95 96 Piercing Line Dark Cloud Cover 99 100 Thrusting Line Incomplete Dark Cloud Cover 100 104 Bullish Harami Line Bearish Harami Line 104 107 (continued )

x INDEX OF REVERSAL PATTERNS Bullish Reversal Bearish Reversal Pages Bullish Harami Cross Bearish Harami Cross 110 111 Homing Pigeon Bearish Homing Pigeon 114 115 Tweezers Bottom Tweezers Top 115 119 Triple Candlestick Bullish Reversal Bearish Reversal Pages Doji-Star at the Bottom Doji-Star at the Top 119 123 Three-River Morning Doji-Star Three-River Evening Doji-Star 123 126 Abandoned Baby Bottom Abandoned Baby Top 126 131 Three-River Morning Star Three-River Evening Star 131 134 Tri-Star Bottom Tri-Star Top 134 137 Breakaway Three-New- Price Bottom Bullish Black Three Gaps Breakaway Three-New- Price Top 137 140 Bearish White Three Gaps 143 144 Three White Soldiers Three Black Crows 147 148 Advance Block 151 153 Deliberation 153 154 Upside Gap Two Crows 154 156 Multiple Candlestick Bullish Reversal Bearish Reversal Pages Concealing Baby Swallow 156 158 Ladder Bottom 158 160 Tower Bottom Tower Top 160 163 Eight-to-Ten New Record Lows Eight-to-Ten New Record Highs 163 167

INDEX OF CONTINUATION PATTERNS xi 1. Double Candlestick Pages Separating Lines 172 176 Kicking Pattern 176 180 On-Neck Pattern 180 181 In-Neck Pattern 181 183 Thrusting Line 183 185 2. Multiple Candlestick Pages Rising Three Methods 185 187 Falling Three Methods 187 189 Mat Hold Pattern 190 192 3. Windows (Gaps) Pages Windows (Gaps) 192 195 Tasuki Upside Gap 195 Tasuki Downside Gap 195 196 Up-Gap Side-by-Side White Lines 199 Down-Gap Side-by-Side White Lines 199 200 High-Price Gapping Plays 203 Low-Price Gapping Plays 203 204

PREFACE xiii This book is about applying the popular time-tested Japanese candlestick technique to spot market turning points. After all, making money from the markets is all about predicting correctly when the market is about to turn, and the Japanese candlestick technique does this job superbly. I find the candlestick technique very applicable for trading actively traded financial instruments such as stock indices, foreign exchange (forex), commodities futures, and stocks. This is because most, if not all, financial instruments tend to exhibit short-term rallies only to be followed by short-term corrections regardless of their time frames. Their trading cycle ranges from 5 to 15 candles (see Figure P.1 and Figure P.2). It is fun to be on the right side of the market, buying at or near market bottoms and selling at or near market tops. But the question is, How do I know if today s market action constitutes a market bottom? Conversely, after a sharp rally of a few sessions, what signals are there to tell you that your stocks have topped out and are due for a correction? Questions like Is this the right time to buy? or Is this the right time to sell? have always been a talking point amongst traders and investors. The objective of this book is to provide an answer to these questions. There are many techniques out there, mainly from the West, like the moving average, relative strength index, moving average convergence divergence (MACD), stochastic, momentum, Bollinger bands, Elliott waves, and so on, that can help you time your entry and exit. I strongly believe that these Western techniques should be part of a trader s arsenal.