Candlestick Hammer Signal

The candlestick hammer signal is a bullish reversal pattern that forms after a decline, and signifies that the market is “hammering” out the bottom. In order to qualify as a hammer signal, there are three conditions that must be met. Before discussing these three conditions, let us review the construction required to form a shadow when using Japanese candlesticks. It is necessary to discuss the shadow because it plays a part in the recognition of the candlestick hammer signal. The shadow is depicted by long thin lines above and below the body, and it represents the high and low range. The high is marked by the top of the upper shadow and the low is marked by the bottom of the lower shadow. If the stock closes higher than its opening price, then a hollow candlestick forms and the bottom of the body represents the closing price. Conversely, if the stock closes lower than its opening price, then a filled candlestick is formed and the top of the body represents the opening price and the bottom of the body represents the closing price. The hammer signal is considered a reversal pattern along with the doji candlestick chart, bullish engulfing pattern, and the bearish engulfing pattern.

Now that we have discussed shadows, let’s review the three conditions that must be met in order to form a candlestick hammer signal. First, the long lower shadow must be a minimum of two times the real body. Second, there is little or no upper shadow on the real body. Third, the day after the hammer is formed, the markets should display continued buying because the real body is at the upper end of the trading range. Lastly, the stock must have been in a definite downtrend before this signal can occur. When detecting a hammer signal, the color of the real body is not important, however the larger the lower shadow, the more significant this candle becomes. It can also be said that a black body has slightly more bearish indications and a white body has slightly more bullish indications, even though the color is not really as important. Basically, the hammer signal is a reversal signal from down trend to up trend and it is only effective when it appears in a down trend.

What does the candlestick hammer signal indicate is happening in the markets?
Basically it means that on the day of the hammer candle, there is strong selling taking place in the markets. As the day progresses the market recovers and closes near the unchanged mark, or higher in some instances. In other words, after a decline, the hammer signals a bullish revival. What this means is that the low of the long lower shadow indicates that sellers drove the prices lower during the session, but the strong finish indicates that buyers regained momentum and ended the session on a strong note. Since the low of the candlestick hammer signal shows that more sellers remain, a bullish confirmation is required. If on the next day, the stock closes down, the hammer signal should not be relied upon as a sign of reversal at that point in the trend.

For every candlestick chart there is a strong message provided, however you should always wait for confirmation from another indicator before taking trading action. For centuries, Japanese rice traders recognized that investor sentiment operates in recurring patterns which is precisely why candlestick charts are still in use today.

Continue your Japanese Candlestick education and read about the inverted hammer candlestick.