A Brief History of Japanese Candles

Japanese candle patterns originated in the 1700’s as a means for rice traders to predict the future price of rice on a day to day basis and it was during this time period that Candlestick trading became more refined. In the mid 1700's they were really fully utilized when "The god of the markets" Homna came into the picture. Homna's research into historic price moves and established definitive interpretations into what became known as Candlesticks. His research and findings, known as "Sakata Rules" became the framework for Japanese investment philosophy. It was said that he had over one hundred winning trades in a row. His abilities became legendary and were the basis of Japanese Candlestick analysis.

There are 40 candlestick patterns but my research has indicated most of them are not applicable to forex trading because of a major difference between forex and the rice and later stock markets that candlesticks were designed to trade.

Firstly, the forex market is open almost all of the time! It opens on Sunday night around 21:00 GMT and closes on Friday afternoon around 21:00 GMT. Forex traders can initiate trades at any time between Sunday and Friday.  Conversely, stock markets are only open for 8 hours of trading Monday through Friday.  This “down time” in the worlds stock market often results in gaps at market open, that is the price often opens some distance away from the previous day’s close.  In traditional Japanese Candlestick Trading these gaps are used to confirm many patterns because they are a sign of volume driving the price and these gaps will usually widen as the trading day progresses.  In the Forex market however gaps only form over the weekend when the markets are closed and unlike the gaps that form in stock markets they almost always close, that is the price retraces to the close on Friday. 

I have studied all the Japanese Candle Patterns extensively and I have narrowed them down to just 5 patterns that work consistently in the Forex market.  With the addition of my Support: Resistance indicator the success rate is extremely high.

Trade Examples

DAILY CHART EXAMPLE

On this EURJPY chart we had two bearish engulfing patterns occur at the Daily resistance. The first occurred on November 8 after a Doji indicated a change in investor sentiment this was followed the next day by a bearish engulfing candle confirming the change in trend.  The trade was entered at the open of the next candle at 114.191.  The trade hit the Take Profit placed at Daily support on November 12 for a profit of 300 pips.  The stop loss was placed just above the previous Doji at 130 pips.

The second trade occurred when a bearish engulfing candle failed to break the Daily resistance at 114.73.  I entered the at the open of the next day’s candle on November 23 at 113.531.  The trade hit Take Profit the same day when it hit the Daily support for 240 pips.  Stop Loss was placed just above the previous candle at 140 pips.

FOUR HOUR CHART EXAMPLE TRADE

In this example on June 29 after the USDJPY failed repeatedly to break and close above the resistance at 81.110 a bearish engulfing candle formed.  Entry was at the beginning of the next candle at 81.000.  The Stop Loss was placed just over the wick of the previous candle at 81.200 for 20 pips.  Take profit was placed at the support line at 80.337 for 67 pips.

ONE HOUR CANDLE EXAMPLE TRADE

In this example a pinbar formed close to the resistance at 1.4875, entry was at the start of the next candle at 1.4209, the stop was set at 40 pips and the take profit at 50 pips, at +30 pips I closed half of the position and moved the stop to break even on the remaining half