From the February 01, 2011 issue of Futures Magazine • Subscribe!

Trading with Candlesticks

Trading with Candlesticks: Visual tools for improved technical analysis and timing
By Michael C. Thomsett
FT Press
$34.99; 241 pages

This book was written for experienced traders and technicians who want to enhance their knowledge of candlesticks and learn how they can complement technical analysis. Thomsett begins with an explanation of basic candlesticks, their origin, meaning, strengths and weaknesses. Then, he describes the components and construction of candlestick charts and moves on to review single and double candlestick patterns. This leads to a review of multistick patterns later in the book. The book focuses on identifying and interpreting candlestick signs and patterns with an emphasis on pinpointing reliable and failed double and triple candlestick formations.

According to the author, the key to understanding candlestick patterns and formations is to learn how to interpret them when observing them in conjunction with a handful of technical indicators (e.g., volume and volatility, MACD, RSI, Stochastics and Bollinger Bands). The overall objective is to anticipate a trend change to bullish, bearish or neutral from this combined analysis. Thomsett’s thesis is that using technical analysis tools in combination with well-known candlestick price patterns will lead to more precise and better trade entry and exit signals.

Thomsett defines a complex candlestick pattern as one with three or more consecutive candlesticks occurring without a break in trend. This pattern either can be a reversal pattern at or near a current trend, a directional pattern indicating the formation of a new trend or the continuation of an existing trend. Some of the patterns he covers include the following: evening and morning star, abandoned baby, three white soldiers or black crows, and upside and downside tasuki gap.

The author provides considerable coverage on how to recognize reversals that enable the trader to enter or exit a position. The key factors to consider are whether the reversal is a true or false signal, its strength and its potential confirmation or non-confirmation with another indicator.

Daily trading volume (especially spikes) and price volatility are two key indicators to monitor. Although candlestick patterns are powerful price monitoring tools, according to Thomsett, they are enhanced by incorporating those two indicators. Volume spikes at or near a reversal formation are a solid confirming indicator, as is a pattern of increasing daily volume as prices rise. Thomsett introduces a handful of volume indicators that he finds useful, including on-balance volume, money flow, accumulation/distribution and the Chaikin Money Flow or money flow index. These indicators are standard on most charting websites.

Another subject area that he covers at great length is how to identify buy and sell setup signals and how to swing trade. This 50-page, two chapter examination is followed by a chapter on the use of trend lines and moving averages. Last, there is a chapter on technical analysis, which is used as a confirming indicator to candlestick signals. Thomsett points out that even the lack of a confirming signal is in itself a signal that no action should be taken.

Numerous annotated charts (provided by stockcharts.com) are plentiful throughout the book and are easy to read because they are one-half to three-quarters a page in size and cover about three months of time. There is also a useful 114-item glossary of technical analysis and candlestick terms. However, no bibliography is provided.

In summary, Thomsett offers a unique and practical perspective on candlestick charting and signals enhanced with technical signals. Novice and experienced traders will gain valuable knowledge and insights from this well-organized, logically sequenced and well-written guide.

Leslie N. Masonson is the author of "Buy DON’T Hold" and "All about Market Timing." Reach him at lesmasonson@yahoo.com.

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