Interpreting Spike Candlestick Pattern

Technical analysis provides a gamut of trading opportunities to investors. Irrespective of the financial performance of a company, the technical analysis offers profit-making prospects. It entails predicting price movements based on historic trends and patterns. Spike Candlestick is one such technical analysis pattern. Let’s discuss the spike candlestick pattern, and how to identify and interpret it.

Interpreting Spike Candlestick Pattern

Unlike complex technical patterns, the candlestick is the most common and comprehensible way to understand market trends. Candlesticks are informative bar formations that provide abundant information about the price movement of a stock. It captures the opening and closing prices as well as the peaks and troughs of price movements during a period.

A spike candlestick pattern refers to a significant increase or decrease in the price movement caused by a change in the market sentiment. The pattern makes a peak in the trendline due to the sudden price movement. In the end, it settles back to its initial range.

Spike Candlestick Pattern is a rare occurrence and culmination of a sudden change in sentiments. It could be triggered by emotions such as greed, fear, or panic. Greed fosters traders to enter into trades although it may not be sufficient for the growth to continue. Consequently, traders square off positions vastly leading to a spike in price movement.

Alternatively, a spike can also occur in the case of volume trading. A trader with a significant volume is capable of influencing the price movement. For example, a sudden rise in demand will inflate the stock price before traders panic and liquidate their holdings leading to a price consolidation. Furthermore, the following factors may lead to a spike formation:

1. Directed movement in the trend
2. Numerous gaps in the price trendline
3. Price break from support and resistance levels with a quick impulse
4. Non-accumulation of prices at support or resistance levels
5. Price springs equally sharply by the trend and against it

Trading in spikes involves considerable risk. Typically, the spike in price is at least a hundred or a thousand points. To mitigate the risk, traders must execute stop-loss orders. Thus, profits are protected even before entering into a position.

In case of an upward movement in price, a trader can venture into a selling position at the beginning of the returning candle by leveraging the peak of the spike to place a stop loss limit order. A take profit limit is placed at an equidistance after measuring the stop loss. On the contrary, in case of a downward spike, traders execute a buying position at the bullish candle opening after the spike.

How to Recognize a Spike

The primary reason for spike formation is the latest information or news that has appeared due to certain market movements. Such information tends to affect investor sentiment and lead to an erratic price movement. In an upward strike, the price breaches the previous trend towards a fresh high. However, at the end of the period, the price closes near the original range. Once the strike falls, a reversal candle is formed.

A renowned example of a spike dates back to the stock market crash of 1987. At the time, Dow Jones plummeted 22 percent in one day owing to the crash.

Conversely, the price movement is the opposite in a downtrend. The spike sets off at a much lower price but finally closes near the previous candles. After the downward spike candlestick pattern, traders notice a Hammer, Harami, or inverted Hammer pattern.

Examples of spike candlestick pattern

Suppose the price of HDFC Bank Ltd stock has been increasing steadily in the recent past. At some point, the credit rating of HDFC Bank has been released and it has improved. As a result, the price of HDFC Bank leaps up high and stops at the next candlestick. Over time, the quotations pull back. Ideally, a position should be triggered at the level of the last low before the impulse. However, in this case, a selling trade will open at the closing of the returning candlestick.

To maximize the potential profit, a trader must place a stop loss in a safe place behind the high. The take profit will be calculated depending upon the size of the stop loss. Further, to increase the profit, it would be more efficient to move the stop loss rather than placing a take profit position.

In conclusion, it is worthwhile to note that spike candlestick patterns are formed in high volatility markets and extremely volatile instruments. Thus, trading in spikes involves considerable risk. It is pertinent for a trader to not confuse gaps in a trendline with a spike pattern.