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*Japanese Candlestick Charting - a running exposition*
My intention with this thread is to investigate the predictive efficacy of Japanese candlestick charting. Many a practicioner swears by the forecasting ability of this Eastern method when employed in the hands of a skilled analyst. I make no claims at being such a skilled analyst therefore this thread will hopefully aid my development in this process as well as elucidate that it does not take a deft candlestick chartist to employ this technique.
Below I have have included six month charts in daily timeframe of the DJIA and the yield on the 10-year Treasury Note under the assumption these two can be generally viewed as proxies for the equity and fixed-income markets respectively. Over time I hope to incorporate other markets as representative of various asset classes including the US Dollar for currencies and oil or gold for commodities.
I aim to include a daily update should market activity warrant such frequency. I have included six months of price data below as a way to set the context rather than starting this project with no frame of reference.
One thing to keep in mind is that while many view Japanese candlestick charts as being unrivaled in signaling reversals and continuations the formations I hope to highlight going forward do not lend themselves well to projections or price targets. Western techniques are better for such a task. I plan to focus on candlestick patterns and as a result this will be a very short-term trend identification project. On some occassions I may incorporate Western techniques should I view them as enhancing the candlestick methods however my goal is not to focus on long-term trends but rather the day-to-day manifestations of the Japanese candlestick methods.
As with all technical analysis the following interpretations are subjective. You may see different indicators and signals than I do. I welcome constructive comments should I overlook a signal going forward.
- Here we see a Rising Window (a gap) in the yields on the Ten Year Note. According to candlestick methodology the bottom of the window is the close of the candle beneath the gap therefore for window is not closed until a candle closes inside the real body of the candle before the gap. Candlestick charting says that windows, rising and falling, should be viewed as support and resistance. In this case the Rising Window was tested and acted as support for 7 daily sessions until a Falling Window turned the trend toward lower rates.
- The following three daily sessions met resistance at the Falling Window as prescribed by candlesticking.
- The Evening Doji Star at 3 is a reversal signal and quickly reversed the nascent increase in rates.
- A Falling Window formed with resistance at the lower end of the preceding candle (1.726%) which held until August 14th when a green (white) candle real body closed above the resistance level.
- A Rising Window formed between July 26th and July 27th suggesting support at the level of 1.428% (the July 26th closing high). Yields more or less fell in the days following but found support without closing the window adding further significance to this level.
- These six candles comprise a Rising Three Methods formation which is a bullish continuation pattern similar to a bull flag in Western technical analysis. Following a long green (white) candle a series of smaller bodied candles moves against the green candle. The formation is complete when a second long green candle closes above the first confirming the trend is higher. As long as the small bodied candles do not close outside the real body of the first candle anywhere from 2 or more intervening candles will still qualify this pattern as Three Methods. This pattern told us the path of least resistance was higher rates.
- Following the Rising Three Methods we had a one day pullback via a Dragonfly Doji which was followed by a Rising Window the following day. This confirmed the Rising Three Methods signal that higher rates were to be expected in the near future.
- This pattern would qualify as a Harami in my book (inside day in bar charting). A small bodied spinning top which formed completely inside the real body of the long red candle Bearish Belthold Line signals the market is losing its breath and becoming more neutral with regard to trend. Looking to the left of the chart and applying more Western technical analysis we see that the Harami formed at the psychological level of approximately 1.50% on the Ten Year Note. More specifically the level is 155.5 to 156 basis points which appeared to be a level of support for three weaks back in June and a level of resistance in late August. Keep in mind Harami's need to be confirmed which would come in the form of a close above the real body of the Harami during tomorrow's session. An even stronger signal that the trend has reversed would be a close above the Bearish Belthold Line preceding the Harami.
- I didn't put a highlight on the chart above but it may be worth noting that the potential reversal signal today came at the 40-45 level on the RSI which in most markets seems to be a level of support for up-trends. Failure to hold 40-45 on the RSI(14) would add evidence in building a case that yields have lower to go.
