Hammer Candlestick Meaning Types Examples Interpretation

Hammer Candlestick Meaning

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The candlestick shows significant selling pressure at the start of a period, which buyers absorbed and pushed the price up near the opening price within the timeframe. The body represents the difference between opening and closing price while the wicks show the low and high price. Hammer candlestick patterns are of two types – bullish and bearish.

Key Takeaways

The hammer candlestick is a pattern formed when a financial asset trades significantly below its opening price but makes a recovery to close near it within a particular period.A hammer candlestick mainly appears when a downtrend is about to end.Only a hammer candle is not a strong enough sign of a bullish reversal. Therefore, one should look for three bearish candles preceding the hammer and the confirmation candlestick before taking a position. A hanging man candle is similar to a hammer but indicates a bearish reversal. Moreover, unlike a hammer, it appears mainly at the end of an uptrend.

Hammer Candlestick Explained

Hammer candlestick refers to a candlestick pattern with the appearance of a hammer or the English alphabet’s ‘T.’ It helps traders identify potential bullish trend reversals. One may find it at the end of a downtrend.

The lower wick or shadow of the candle is at least twice the size of a very short body with little or no upper shadow. It shows that the buyers overpowered the sellers in a particular trading period. In other words, the buying pressure controlled the asset’s final price action during a specific duration. The longer a hammer’s lower wick, the more the activity concerning an asset.

Hammer candles serve as effective indicators when they appear after a minimum of three declining candles. However, one must note that this candlestick pattern does not give a strong trend reversal signal until there is a confirmation on the chart. Traders get confirmation when the candle right after the hammer closes higher than the latter’s closing price. Once the confirmation candle appears, traders exit their short position or take a long position. Individuals entering a long position can place a stop loss order below the hammer’s low price.

Types

Let us look at the different types of hammer candles.

#1 – Bullish Hammer

A bullish or green hammer candlestick is a stronger formation than bearish or red hammer candles as it shows that the buyers or bulls were able to overpower sellers or bears completely. Moreover, this candlestick shows that the bulls were able to drive up the security’s price above the opening price.

#2 – Bearish Hammer

Similar to the green hammer candlestick, the red or bearish hammer candlestick serves as a bullish signal. It shows that the buyers could absorb the selling pressure but could not drive up the asset’s price past the opening price.

Examples

Let us look at some hammer candlestick examples to understand the concept better:

Example #1

Suppose a trader, Mike, is tracking the price movements of XYZ stock. After looking at the security’s candlestick chart, he identifies a bullish hammer in a downtrend after four declining candlesticks. Hoping it is an indicator of a trend reversal, he buys 50 shares of XYZ stock at $5 per share. After Mike placed the buy order, the stock’s price jumped as an uptrend materialized. He sold all the shares at $8 per share and made a profit of $150.

Example #2

West Texas Intermediate (WTI) crude oil price fell during the 3rd week of August 2022. However, the market swiftly recovered, showing some signs of life. The hammer candlestick suggests that traders might see some support at the $90 mark, and there is a possibility that the price can surge up to the $100 mark if we manage to break over the top of the candlestick. However, if the support level breaks, the price can plunge to $80.

Interpretations

As noted above, a hammer appears in a downtrend, i.e., when the price of an asset is falling. It signals that the market is trying to find the bottom. This pattern indicates a lot of activity surrounding the asset during a particular period — the asset price dropped initially but closed near the opening price following a pullback.

The hammer’s position in the chart also bears crucial signals. A bullish reversal could be on the horizon when a hammer forms after at least three bearish candles, and the candlestick next to the hammer closes above the hammer’s closing. Traders can identify the signals and take a suitable position in the market.

Hammer vs Hanging Man

The hammer and hanging man candlesticks are similar in appearance, and both patterns signal trend reversals. That said, one can find these two candles in different trends.

In case the formation of the pattern takes place in an uptrend, signaling a bearish reversal, it is the hanging man pattern. On the other hand, if this pattern appears in a downtrend, indicating a bullish reversal, it is a hammer.

Hammer vs Inverted Hammer Candlestick

An inverted hammer candlestick is identical to a hammer, except it is upside down. Moreover, similar to the latter, the former serves as a bullish reversal indicator. An inverted hammer mainly appears at the end of a downtrend and signals the possibility of a new bull run.