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Understanding Charts and Patterns

The gold market suffers from volatility, and green charts can turn red in a blink of an eye! However, some patterns can provide traders with a deep insight to predict price direction and hint to traders when market sentiment shifts from bearish to bullish or vice versa.

This lesson tells all about the most critical candlestick and chart patterns! Let’s get started!

 

Important Bullish Candlestick Patterns


Before cutting to the chase, first, we need to learn what a candlestick pattern is. Shortly, a candlestick pattern visually represents price movements during a specific time. The followings are some of the most important bullish candle stick patterns.
 

Hammer


A bullish hammer candle stick pattern is used in technical analysis to identify potential reversals in a downtrend. It is made of a small body and a long lower shadow (also known as the tail or wick) and is found at the bottom of a downward trend.


 

Morning Star


Morning Star is another bullish candlestick pattern that typically appears in a downtrend and signals a potential reversal in market sentiment. It comprises three candles with the low point on the second (middle) candle.


 
  • The first candle is always considered bearish, indicating a downward trend.
 
  • The second or the middle one could be bearish or bullish and has a small trading range, indicating indecision in the market. The midde candle is commonly a doji or pinbar.
 
  • The third candle is always bullish, indicating a shift in market sentiment, and the larger the body of the third candle, the stronger the pattern. The third candle’s close should be at least higher than 50% of the first candle’s body.
 

Bullish Engulfing


A bullish engulfing candlestick pattern is shaped when a bearish candle is entirely engulfed by a longer bullish candle in the following. Nevertheless, not only the shadows but also the body of the second candle should be larger than the previous candle's body.

Similar to previous candles, this candle also suggests a reversal in the downtrend and a potential bullish move. 



 

Important Bearish Candlestick Patterns


As mentioned above, the market is volatile and sometimes signals a clear dominance of the bears! This is where bearish candlestick patterns come in handy, giving traders a clear picture of the market condition and the possibility of a bearish trend reversal, leading to a robust downtrend.
 

Hanging Man


A hanging man candlestick pattern signals a potential reversal in an uptrend. Similar to hammer candlestick patterns, it is also made of a single candlestick with a small body near the top of the candlestick range and a long lower shadow (also known as the tail or wick).


 

Evening Star


An evening star pattern is the opposite of the morning star pattern, consisting of three candles, and is considered a strong bearish signal.


 

Bearish Engulfing


Similar to the bullish engulfing candlestick, a bearish engulfing is also shaped with two candles, where the second candle completely engulfs the preceding bullish candle.



However, the body of the second candle should completely engulf the previous candle's body as well.


 

Important Chart Patterns


There are various types of chart patterns by which traders can have a deep picture of gold price changes, explained below.
 

Flags


Flag patterns refer to a type of technical analysis pattern that describes the signal to enter a trade in the direction of the previous trend once a price movement breaks the consolidation period in the same direction.

They are called flag patterns because when they are formed on a chart, they look like a flag on a pole. There are two types of flag patterns depending on whether the prices are in an uptrend or downtrend, which we will explain below.

 
  • Bullish Flags

A bullish flag pattern is a descending flag representing a chart pattern in which the gold is in a strong uptrend but then has a slight consolidation correction period before continuing its current trend. A bullish flag has two parts and gets its name from its appearance, which resembles a flagpole with a flag attached to it.

During the consolidation phase, the market breathes after a solid upward move and forms a flag that signals a temporary pause in an uptrend before the price resumes its rally. Traders utilize this pattern to identify potential buying opportunities in the market.
  • Bearish Flags

Similar to a bullish flag, a bearish flag also consists of two parts, the flag and the flagpole. A bearish flag, also known as an ascending flag, is shaped when there is a sharp downward price move, called a flagpole, followed by a consolidation period, which forms a rectangular pattern.

A bearish flag suggests that the market will likely continue moving lower after the consolidation period ends. As a result, traders may use a bearish flag as a signal to enter a short position.

 

Head and Shoulder Patterns


Head and shoulder patterns represent the human head with two shoulders on either side. They are formed with three different peaks, including a head and two shoulders. The head is the middle peak which is higher than the other two peaks (the "shoulders").

The two shoulders are approximately at the same level and are lower than the head to the right and left of the head.

Left shoulder: It starts with a price peak and then is followed by a decline.

Head: Price rises again, forming a higher peak.

Right shoulder: A decline occurs once again, followed by a rise to form the right peak, which is lower than the head.

Neckline: The neckline is a trendline connecting the lowers of the left and right shoulders.
This pattern is also called a reversal pattern, suggesting a potential trend reversal in the market.


 

Inverse Head and Shoulder Patterns


As its name suggests, an inverse head and shoulder pattern mirrors the head and shoulder pattern, suggesting a shift in market sentiment from bearish to bullish. It also consists of three distinct peaks as follows.

Left shoulder: It starts with a decline and then is followed by an increase.

Head: Price declines again, forming a lower bottom.

Right shoulder: Price increases once again, then declines to form the right bottom.

Neckline: The neckline is a trendline drawn connecting the highs of the left and right shoulders.


 

Wedges


Wedge patterns appear in a chart when two trendlines converge, narrowing the price range. These patterns are known as wedges since they represent a triangle or wedge shape on a price chart. There are two types of wedge patterns depending on the market condition, explained as follows.
 

Rising Wedge


A rising wedge forms when two ascending trend lines are connected, one representing highs and one representing lows. When a rising wedge pattern appears in an uptrend, it signals a potential bearish trend reversal. 



In contrast, if it forms during a downtrend, it would signal a continuation of the down move.

 

Falling Wedge


Similar to rising wedge patterns, falling wedge patterns can represent a bullish reversal or continuation trend. Generally, the upward price move may last if a falling wedge pattern forms during an uptrend.



In contrast, it also could signal a reversal trend if it forms during a downtrend.

 

The Bottom Line


In conclusion, candlestick patterns are valuable tools for technical analysis, providing insights into potential market reversals, continuations, and trends.

Understanding patterns such as the hammer, engulfing, morning star, evening star, head and shoulders, wedge, and flag can enhance traders' ability to make informed trading decisions.
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Answer the following questions to assess your knowledge

Which candlestick pattern is used to identify potential reversals in an uptrend?

Which chart pattern resembles a flagpole with a flag attached to it and signals a temporary pause in an uptrend before the price resumes its upward movement?