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How to trade using the inverted hammer candlestick pattern

04 Dec 2023

Introduction:

Candlestick patterns are an integral part of technical analysis in stock market trading. They provide valuable insights into market sentiments and help traders make informed decisions. There are numerous types of candlestick patterns, and you must learn about each one of them if you have just begun your stock trading journey.

What are candlestick patterns?

Candlestick patterns originated in Japan in the eighteenth century for rice trading. Since then, they have become one of the most widely used tools among stock market traders and analysts to speculate price movements of stocks. Candlestick charts visually represent price movements, offering insights into market sentiments and potential trend reversals or continuations.

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Each candlestick comprises three main components – the body, wick, and colour. The body of a candlestick represents the range between the opening and closing prices during a trading period and can be filled with red or green colour (black and white in some cases). The red (or black) colour indicates bearish movement in a stock, whereas the green (or white) indicates bullish movement.

The wicks or shadows are the thin lines extending above and below the body. They represent the highest and the lowest price points the stock reached during a trading period. An accurate interpretation of various candlestick patterns can provide insight into the prevailing market sentiments and help you make informed trading decisions.

What is an inverted hammer candlestick pattern?

An inverted hammer is one of the most common candlestick patterns. It is a single-candle pattern and occurs at the end of a downtrend. It is characterized by a small body with a very short or negligible upper wick and a long lower wick, thus resembling the shape of an upside-down hammer.

The appearance of the inverted hammer candlestick pattern suggests a potential reversal from a downtrend to an uptrend. It indicates that the bears are losing control over a stock, and the bulls are ready to take charge. In other words, the sellers are diminishing, and the buyers are rising.

Below are the key characteristics that can help you identify the inverted hammer pattern on a candlestick chart:

  • A small body

An inverted hammer has a small body, often near the top of the candlestick. It indicates a very small gap between the opening and closing price of the stock during the given trading period.

  • A negligible upper wick

Another characteristic of an inverted hammer is the absence of the upper shadow. In some cases, there is a negligible or very small upper shadow. It means that the highest price point of the stock during the given trading period is very close to its closing or opening price.

  • A long lower wick

One of the main characteristics of an inverted hammer is the presence of a long lower shadow. It indicates the stock has risen from a lower price point to close near its opening price during the given trading period, indicating a potential shift in the prevailing bearish trend.

  • Colour

The colour of the body is not crucial in the case of an inverted hammer candlestick pattern. In contrast, the position of the body concerning the highest and the lowest point during a trading window is more significant.

Trending strategies for inverted hammer candlestick pattern

Below are the trading strategies for inverted hammer candlestick patterns you can consider:

  • Good entry point

The appearance of the inverted hammer candlestick pattern can be a good indicator to enter a new long position or buy additional stocks. The pattern can immediately trigger a healthy upward movement in the stock.

  • Confirm with other indicators

While the inverted hammer pattern suggests a potential trend reversal from bearish to bullish, you must confirm with other technical indicators before making trading decisions. For example, the increasing volume in the stock after the formation of an inverted candle can confirm the possibility of an upward movement.

  • Risk management

As with any other trading strategy, you must take adequate risk management techniques with the inverted hammer pattern. For example, you can place a stop loss below the low of the inverted hammer to limit potential losses.

To conclude

The inverted hammer candlestick pattern is valuable for traders to identify potential trend reversals from bearish to bullish. However, after confirmation with other technical indicators, you must use this pattern and take appropriate risk-management techniques.

 

Related Articles: What Is Candlestick Wick Analysis | What Is On Neck Candlestick Pattern | What is Three Inside Down Candlestick Pattern | What Does a Paper Umbrella Candlestick Indicate | All you need to know about the tweezer bottom candlestick pattern

 

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