The Importance of Doji Candles in Technical Analysis

Doji candlesticks are among the most popular candlesticks used in technical analysis of financial securities’ prices. Dojis are very easy to spot because their formation is unique from other candlesticks. Their highs and lows are relatively the same in length, and their opening and closing prices are either the same or very close to each other (generally less than 0.10 percent increase or decrease from its opening price).

Dojis are neutral in nature, which means buyers and sellers are relatively undecided as to the price movement of a financial instrument. In most cases, the buyers and the sellers are on the sidelines waiting for confirmation as to where would the price will go.

Generally, Dojis are accompanied by low volumes. High volumes would tend to make the stock swing away making a huge difference from its opening and closing prices as well as its highs and lows. Though there are times when a stock that trades with high volume will end up in a Doji candlestick, it seldom happens and it normally do in penny stocks where the available shares are relatively high.

Though Dojis are neutral in nature, they are very useful in spotting trends and possible direction of the price. Here are some interpretations of Dojis in charts and trends.

First, Dojis are used to spot possible reversal points. Whether it’s an uptrend or a downtrend, as soon as a Doji is spotted, it can be thought of as the end of a trend and a start of a new one. What’s the psychology of this one? For example the trend is an uptrend and the price of a particular stock are making higher highs and higher lows. Such increase will not go on forever as some traders, especially those who have bought below, will start to take and pocket their profits which will decrease the number of people buying and increase the people selling.

The trend will weaken, and at some point it will form a Doji wherein it will no longer create a higher high, but rather close at basically the same opening price. This will signify that traders are no longer willing to buy at a higher price than that for the moment and the price may go lower. The same thing can be said from a downtrend. Dojis can be considered as a signal for the price to stop falling and start to pick up some momentum to go back up.

Second, aside from reversal, Dojis can also serve as a sign of a stock possibly losing some momentum and stay at a certain range but won’t necessarily go the opposite way. The psychology of this is that the trend of the stock will exhaust at some point and once again build momentum and continue to previous trend. For example, in a bullish stock, profit taking will always be at the corner, hence it will keep the stock from continuing to go higher.

If the demand of the stock is high, a new set of buyers will come in and buy the stock at that particular high price preventing it from going down despite of the heavy selling of the traders who are taking their profits. The result? New buyers are buying the stock at a certain point wherein a lot of people are selling preventing the stock’s price to move. Generally, it will go up and down, but will stabilize at some point making it look as if the stock didn’t move at all.

Despite the reason behind the forming of a Doji pattern, it signifies only a single thing, which is the ongoing trend will stop and may either continue at some other time or will probably reverse. Other than reversal, it is an indication that price movement will go sideways, which is called the consolidation stage. After the consolidation stage, the trend will continue.

Though Dojis may look like boring set ups, but they are very valuable and useful. Understanding the psychology behind it is very important in order to maximize such set up and see the possible trend that is coming. It is very important to know the reason behind the stock’s trend and its chart pattern, and incorporate it with the Doji candlestick. If done right, this simple candlestick set up can result in enormous gains.