Use them to understand a Doji formation.In one of the earlier columns, we had taken a cursory look at the Candlestick charts. In this column we will throw some more light on the subject.

As told earlier, Candlestick charts were first used by the Japanese to trade rice in the seventeenth century. They have now been refined by the western chartists to trade stocks and commodities.

Candlesticks are more visually appealing as compared to bar and line charts and a furtive glance is enough to read the chart. I use candle sticks as a default opening on my chart book. There are many interesting patterns in candlesticks. In this column we look at the ‘Doji’ pattern.

A DOJI
Doji forms when a security’s open and close are virtually equal. The length of the upper and lower shadows can vary and the resulting candlestick looks like a cross, inverted cross or plus sign. On a stand alone basis doji are neutral patterns. Any bullish or bearish bias is based on preceding price action and future confirmation.

Ideally, but not necessarily, the open and close should be equal. While a doji with an equal open and close would be considered more robust, it is more important to capture the essence of the candlestick. Doji conveys a sense of indecision or tug-of-war between buyers and sellers. Prices move above and below the opening level during the session, but close at or near the opening level. The result is a standoff. Neither bulls nor bears were able to gain control and a turning point could be developing.

The relevance of a doji depends on the preceding trend or preceding Candlesticks. After an advance, or a green candlestick, a doji signals that the buying is tapering off. After a decline, or long red candlestick, a doji signals that selling pressure is starting to diminish. Doji indicates that the forces of supply and demand are becoming more evenly matched and a change in trend may be near. The arrival on the scene of a Doji alone is not enough to mark a reversal and further confirmation may be warranted. DOJI FORMATION ON RELIANCE INFRA WEEKLY CHART
In the above chart we see that a Doji was made in the second week of January, 2008 after a prolonged rise. In the subsequent week, we saw a huge sell off in the stock. This was an indication that the uptrend in the stock had ended and a down trend had begun. Though in the current chart we see price falling to around 680 , it ultimately saw a level of 354 in October 2008, before beginning a long and arduous trek back.

GRAVESTONE DOJI
Gravestone doji form when the open, low and close are equal and the high creates a long upper shadow. The resulting Candlestick looks like a gravestone or stele on a grave and resembles an upside down “T” with a long upper shadow and no lower shadow. Gravestone doji indicate that buyers dominated trading and drove prices higher during the session. However, by the end of the session, sellers resurfaced and pushed prices back to the opening level and the session low.

As with other candlesticks, the reversal implications of gravestone doji depend on previous price action and future confirmation. Even though the long upper shadow indicates a failed rally, the intraday high provides evidence of some buying pressure.

Appearance of a gravestone Doji after a prolonged uptrend has stronger bearish implications as compared to an ordinary Doji.

source: Business-Standard

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