There are many popular technical indicators that traders use in an attempt to predict the future movement of a stock’s price. You may be wondering “Can candlesticks be used as stock momentum indicators?”
A stock may be moving up, down or sideways, but traders need to predict if this direction or “trend” will continue in order for them to make a decision to buy, sell or employ option strategies.
Simply knowing the direction of a stock price trend is not sufficient to make an accurate prediction of future short term moves. Traders need to know the strength or “momentum” of that trend.
Can candlesticks be used as stock momentum indicators?
Stock Momentum Definition
According to Investopedia, stock momentum is the speed or velocity of a stock’s price change. When you look at stocks with momentum, you see how quickly or slowly they change in price over a specified period of time.
A strong momentum signal indicates the trend is likely to continue, and conversely, weak momentum could indicate the current trend may be coming to an end.
Knowing the strength of a trend is paramount to making successful trading decisions.
Best Stock Momentum Indicator
One technical indicator that measures stock momentum is the stochastic oscillator. This indicator gives traders an objective measurement of price momentum.
It tells us how strong or weak the current closing price is compared to the previous high and low over a set period of time.
Consider Reading: Stochastics Technical Analysis for Measuring Price Momentum
Candlesticks as a Stock Momentum Indicator
Another way to determine a stock price’s directional strength is by using candlesticks and candlestick patterns.
We would feel fairly safe in saying that most traders view stock price charts using candlesticks, as opposed to lines, so they are familiar with looking at candlestick price charts.
Candlesticks reveal many things about the activity of a stock during the day (or whatever time frame is selected).
For example, a short green candlestick body with a long “tail” shows that during the day the “bears” pushed the stock’s price down, but it was not sustainable.
The “bulls” stepped in when the price dropped lower and began buying, and by the end of the day the price ended higher than when it opened.
We can also look at a group of candlesticks together that make a pattern that can detect a trend and the strength of that trend.
For example, consider several green candlesticks over the last few days. If each new candle has little or no tail on the bottom and a fairly long wick at the top, we can feel bullish on the stock.
If each green candlestick ends higher than the day before, and/or each candle’s body is increasing in length, the market has a strong bullish sentiment on that stock.
The reverse, of course, is also true. When the “crowd” is bearish, red candles will have few or no wicks, and will have log tails.
Examining a Stock Momentum Chart
Candlesticks can even show us when momentum is waning, and a trend may be coming to an end (or when a downtrend is waning and coming near and end).
The accompanying illustration shows a stock that was in an uptrend. Notice how the candlestick bodies become shorter each day, and then almost disappear into a “doji” (resembling a plus “+” sign) before the stock trend ends, and a reversal downward begins.
Think about throwing a ball straight up in the air. It eventually begins to slow down and loses momentum before it stops moving up and starts to reverse and move in a downward direction. The same is often true for stock prices.
Over time, candlestick bodies will get shorter and shorter if a trend is waning. This pattern reveals that a trend may be coming to an end, as there is less interest in traders buying the stock.
In this case, watch for a time of sideways movement or even a complete trend reversal.
Consider Reading: An In-Depth Look at Doji Candlesticks
How to Identify Momentum Stocks
There is no one single “holy grail” of technical stock momentum indicators that will tell us everything we would like to know, nor be consistently accurate at predicting the future movement of a stock.
Candlesticks and candlestick patterns, however, are among the best technical indicators available to all traders. They are simple to interpret and reveal the sentiment of the marketplace.
Since buying and selling stocks is based on the sentiment of the “crowd,” candlesticks are a key, trustworthy technical indicator that can give traders great insight into potential stock price movements.