In binary options, traders trade the price movement of financial assets. The most important element for a trader, therefore, is the asset price. Candlesticks help traders study and interpret price action easily before making trading decisions in the market. For this reason, candlestick charts have become the most important as well as the most prevalent technical analysis tool used in binary options. Such is their popularity that most binary options brokers now use candlesticks as their default mode of charting. Applying a candlestick strategy can help traders identify great trading opportunities in the market.
The Information Contained in a Candlestick
A typical candlestick will form after a specific time period chosen by the trader. If a trader chooses to trade off a 1-hour chart, candlesticks will form every hour. Just like a traditional price bar, a complete candlestick will display an asset’s open, high, low and closing prices but in a visually more appealing way.
The real body will be green or red depending on the open and close of the price. If the close price is higher than the open, then the real body will be green, and if the close price is lower than the open, the real body will be red. The shadows show where the price reached during a particular time period (the high and the low).
As time and price moves, candlesticks usually form patterns that may give traders clues on future price movements. The patterns that form usually help traders understand market sentiment as well as the dominant emotions in the market. There are numerous patterns that can offer traders great trading opportunities. Traders need to understand the price action behind these patterns so they can accurately exploit the trading opportunities they present.
If you want to trade binary options effectively and accurately, it is vital to understand some of the common candlestick patterns. Some of the patterns that have proven very effective over the years include:
This pattern forms when the asset price is attempting to break a significant resistance in the market. The price continues to make a series of higher lows, denoting upward momentum ahead of a major resistance. The resistance is also tested multiple times.
When this pattern forms, traders should expect an upward price breakout. Traders can then seek to place Call orders in the market after the resistance level has successfully been breached. This can easily be done by using the trading platform of your binary options broker.
Descending triangles are the exact opposite of ascending triangles, and they form when there is a support level and the asset price is making a series of lower highs while testing the support multiple times. The lower highs indicate that price is gaining downward momentum.
When traders spot this pattern, they should expect a downward price breakout and the strategy should be to place Put orders with your binary options broker after the support has been successfully breached.
Symmetrical triangles form in the market when the asset price makes lower highs and high lows and converges to a point in the manner of a triangle. This pattern indicates that the price is consolidating and a breakout in either direction is about to happen.
When this pattern forms in the market, traders should watch out for a price breakout in either direction and seek to place orders in the direction the new trend. That is, if the price breaks to the upside, you can place a Call option trade while if the price of the asset breaks to the bottom, you can place a Put option trade.
A double top is a reversal pattern that forms after a period of strong and sustained upward movement. The asset price moves upwards for an extended period of time and forms a ‘top’. This price then retraces slightly before commencing an upward move again. This time, though, it fails to go past the top it posted earlier, indicating that the upward momentum is diminishing.
After failing to take out the initial top, the price falls to around the point it earlier retraced to. This point is known as the neckline. If the price breaks through the neckline, it would signal that a new trend (a downtrend) is now in place and traders should seek to place Put orders in the market.
This pattern is the opposite of the double top pattern. It is also a trend reversal pattern but it forms after a market has been trending lower for a long and sustained period of time. The double bottom pattern signals that downward momentum is diminished and a trend reversal is about to happen.
Like the double top pattern, when the double pattern is spotted in the market, traders should wait for the price to successfully break the ‘neckline’ before seeking opportunities to place Call orders on the trading platform of the binary options broker.
Head and Shoulders
A head and shoulders pattern is a trend reversal pattern that forms when the asset price makes a peak (shoulder), followed by a higher peak (head), and then another lower peak (shoulder). The neckline will then be a line drawn that connects the lowest price points of the two troughs.
When this pattern forms, binary option traders should wait for price to break the neckline, and then start looking for opportunities to place Put orders.
Reverse Head and Shoulders
Like its name, this pattern is the opposite of the head and shoulders pattern and it occurs in a market that has been trending lower. It forms when price forms a ‘valley’ (shoulder), followed by an even lower valley (head), and then another higher valley (shoulder). The neckline will then be a line drawn connecting the highest price points of the valleys.
When this pattern is spotted, traders should wait for a successful break of the neckline before seeking opportunities to place Call orders in the market.
Tips for Successful Candlestick Trading
Knowledge of candlestick charts is vital if you want to trade binary options. When trading these strategies, traders should observe the ranges of individual candlesticks. A candlestick’s range is the distance between its open and close prices. Wider ranges imply high volatility whereas narrow ranges imply low volatility. Traders should also know that low volatility leads to high volatility and high volatility leads to low volatility.
When trading a ‘still’ strategy where you are waiting to determine the direction of the price breakout, traders should wait for confirmation before placing a trade. There is no room for prejudgement in the unpredictable binary options market.
The candlesticks strategy is very effective in deciphering price action and market psychology. It can help traders identify and exploit high quality trading opportunities in the market.