Hammer and Hanging Man

Figure 4.4 shows candles with long lower shadows and small bodies at the top of the price range. The amazing thing about these candles is that they can be either bullish or bearish depending on the market trend at the time they appear on the chart. If the trend is down, then you should expect it to end, and the candle in this case will be called a hammer (see Fig. 4.5). Interestingly, its Japanese name is takuri, which literally means something like "trying to measure the depth by feeling the bottom with your foot."

If the exact same candle occurs during a period of rising prices, then it indicates the likely end of the bullish trend (see Fig. 4.6) and bears the ominous name “hanging man”, because, being at the top of the chart, it can really resemble a hanging man with dangling legs. It may seem strange to some that the same type of candles can be both a bullish and a bearish signal, but there are similar tools in Western technical analysis. So, if the “island” reversal pattern is formed on the chart after a long upward trend, then it warns of an upcoming decline in quotes, and if during a downtrend, then it warns of a likely increase. The hammer and the hanged man can be recognized by three signs: 1. The body of the candle is at the top of the price range. Body color is not important. 2. The bottom shadow should be twice as long as the body. 3. The upper shadow should be absent or very short. The longer the lower shadow, the shorter the upper shadow, and the smaller the body, the stronger the bullish hammer signal or the bearish hanging man signal. Although the bodies of candles in both cases can be white and black, the hammer with a white body is slightly more bullish, and the hanged man with a black body is bearish. The white body of the hammer means that during the trading session, prices fell rapidly, but by its close they rose to the area of ​​​​daily highs, which indicates an increase in bullish sentiment. The hanging man's black body indicates that the market has not been able to return to the levels at which it started the day, and therefore further decline can be expected. It is very important to wait for additional bearish signals before reacting to the hanging man, as this type of candle appears in a market that is full of bullish energy. Trading on the day of its formation opens near the maximum marks, but then there is a large-scale sale, after which, by the end of the session, the price rises closer to the opening marks. From this, one cannot yet conclude that the hanging man will necessarily turn out to be a reversal signal at the top. Nevertheless, its occurrence suggests that the market has become susceptible to attacks by sellers. If the next day trading starts below the body of the hanged man, then those who bought at the opening or closing prices of the previous day will be left with unprofitable positions. The rule of thumb for this type of candlestick is that the larger the gap down between the next day's open and the hanging man's body, the more likely it is that the chart has topped. Another bearish confirmation is a black candle that appears on this day with a closing price lower than that of the hanged man.

Figure 4.7 clearly shows that candles that look the same can be both bearish and bullish. In this case, both the hanged man (candle dated July 3rd) and the hammer (candle dated July 23rd) have a black body, but the color does not matter much.

Figure 4.8 also shows the dual nature of these candlesticks. In mid-April, the appearance of a hanged man signaled the end of a rally that had started with a bull hammer on April 2. In addition, in mid-March, a candle formed on the chart, which can be considered a kind of hanged man. Its body is in the upper part of the daily range, the upper shadow is almost absent, and the lower shadow, although rather long, does not exceed the length of the body twice. The bearish nature of this signal was confirmed by the fact that the next day trading ended at a level below the previous closing price. As you can see on the chart, the upward trend was interrupted after that, that is, the signal turned out to be correct, although the hanged man was different from the ideal. Still, candlestick analysis tools, like other graphical methods, obey certain patterns, and not strict rules. This example shows that the hanging man's lower shadow does not have to be twice the length of the body for the candlestick to be a reversal signal. However, the longer the lower shadow, the more perfect the model will be.

In Figure 4.9, you'll find a series of bullish hammers, numbered 1 through 4 (candle 2 is considered a hammer despite having a tiny upper shadow). Pay attention to the buy signals that appeared in early 1990. The day before, prices made fresh lows, reaching the levels of July 1989, the period when the hammer 2 formed on the chart. For a while, the ball was in the hands of the bears, but the downward trend did not get continuation: two bullish hammers (3 and 4) indicated that the bearish attack failed and the bulls seized the initiative. At hammer 3, the length of the lower shadow did not exceed the body twice, as required, but after it, a more perfect hammer 4 appeared on the chart, which confirmed the high probability of a market reversal at the bottom.

In Figure 4.10, hammers 1 and 3 are bottoms, and hammer 2 signaled the end of a downtrend and the start of a sideways move. But hammer 4 did not work. In this regard, I would like to draw attention to an important feature of all chart patterns discussed in this book: they should always be considered in relation to the previous price movement. Look again at hammer 4: the day before, a candle appeared on the chart with an extremely pronounced bearish sign - a long black body with a cut top and bottom. The trades started at the highs of the day and ended at the lows, which testified to the downward movement gaining momentum. In addition, hammer 4 broke through the old support level of January 24, and this also served as a bearish signal. Considering both of these factors, it was worth waiting for confirmation that Intraday candlestick charts are built in the same way as daily and weekly charts. For example, hourly candles reflect the highs, lows, open and close prices of each hour. Consider the hammer in Figure 4.11 during the first hour of trading on April 11th. Like hammer 4 in Figure 4.10, it formed after a down gap, but in this case it was followed by a white candle with a close higher than the hammer itself, confirming the end of the downtrend. Another hammer-like candlestick formed on this chart on April 12th. However, do not forget that the hammer is a reversal pattern at the bottom, that is, it is formed when there is a downtrend in the market, even if it is insignificant. In this case, there was no such trend, so this candle is not a hammer. It cannot be considered hanged either, because then it should have heralded the end of an uptrend and appeared near the maximum marks of the previous black candle. This also did not happen.

In Figure 4.12, you'll find a classic example of a hammer, with no upper shadow, a small body, and a long lower shadow many times the size of the body. This candle was formed as a result of a long decline that began a few months earlier and successfully predicted its end.

Figure 4.13 is a perfect example of a hanged man. At the time of its occurrence, the market opened with a gap up and made new highs, but the very next day trading began with a gap down, and everyone who made purchases at the prices of the previous opening or closing was left with unprofitable positions.

In Figure 4.14, the rally that had been going on since the beginning of February was interrupted by the appearance of two consecutive hanging men. This chart proves the importance of additional signals to confirm a change in the current trend. Let me remind you that one of these signals is the market opening the next day at a mark below the body of the hanged man. Please note that after the appearance of the first hanged man, the next trades began above his body, that is, there was no confirmation signal. But the second hanged man was followed by confirmation: the opening price was below his body, and the market moved down the field.

Figure 4.15 illustrates another way to make sure that the market is really ready to go down is to check if the hanging man is followed by a black candlestick that has a lower closing price than the hanging man. Thus, candles 1, 2 and 3 represent a series of hanged men. However, in the first two cases, the absence of confirmation signals indicated that the uptrend remains quite strong. But after the hung 3, a black candle formed: although the market opened almost at the same level, the closing price turned out to be much lower, so everyone who made purchases a week earlier went into the red.

Figure 4.16 shows the extremely sharp rise in the price of orange juice in late 1989 and early 1990, which was interrupted by the appearance of the hanging man on the chart. This example confirms that a reversal pattern does not necessarily herald a trend reversal: as noted in Chapter 3, it only signals the end of the previous trend. In this case, the uptrend was replaced by a sideways movement, but did not turn into a decline. Another hanged man appeared on this chart in July, and here events developed differently – the nature of the market changed sharply from bullish to bearish.

In Figure 4.17, you can see the classic hanging man that emerged in May, with a very small body, a long lower shadow, and no upper shadow. The black body of the candle that appeared the next day testified to the truth of the bearish signal and that it was time to close long positions. Also note the bullish hammer that occurred on this chart in early April.