From The Shogunate to Wall St: The History of Candlestick Charts

What are candlestick charts? Why are they important? Where did they come from? The answers to these questions might surprise you. Let’s start by explaining candlestick charts and why they are important.

WHAT ARE CANDLESTICK CHARTS?

Candlestick charts allow traders to identify patterns that may help predict future price movements. They are used in technical analysis to track not only the opening and closing prices of a security, derivative, or currency, but also to give an insight into trader sentiment by recording the high and low prices reached during a given period of time.

The fat part of the candlestick is called the body. It stretches between the opening and closing price. A closing price higher than the opening price is represented by a green candle. A closing price lower than the opening price is represented by a red candle.

The lines above and below the body of a candlestick are called “wicks.” They track the high and low points reached before the closing price, giving insight into the relative power of bears and bulls during the time period covered.

Intraday candlesticks open at the same price the previous closed at. Candlesticks representing time greater than a day can start above or below the closing price of the previous candlestick due to overnight or weekend price movements

HISTORY OF CANDLESTICK CHARTS

Candlestick charts have been a major component of modern technical analysis since the 1990s. This relatively recent adoption belies the fact that they were invented in Japan nearly 300 years ago.

18th-century Japanese rice merchant Honma Munehisa (anglicized Munehisa Homma) is credited with inventing the candlestick chart. He was the first trader known to recognize the effects of fear and greed on market prices. He developed the candlestick chart to capture this market sentiment and help anticipate changes in rice prices.

Honma described his revolutionary trading techniques in his book The Fountain of Gold - The Three Monkey Record of Money in 1755. Some consider this to be the first book on market psychology.

Honma’s new trading techniques earned him the nickname “the God of Markets” and made the Honmas the wealthiest merchant family in Edo-era Japan. It is estimated that he made more than $10 billion over his lifetime, adjusted for inflation. He was awarded the title of Samurai for his work as a financial advisor to the Japanese government.

CANDLESTICK CHARTS COME TO THE WEST

Western traders first became aware of candlestick charting in the 1980s. Micahel Feeny, head of TA in Sumitomo’s London office, was introduced to candlestick charts in the late 1980s. He recognized the potential of candlestick charts and began using them in his everyday work. Despite his efforts, his UK employees and colleagues were slow to adapt to what, to them, was a confusing and complicated system.

Adoption of candlestick charts in the West was slow until 1991, when they burst upon the US trading scene with Steve Nison’s book Japanese Candlestick Charting Techniques. Nison developed new candlestick patterns and refined how they were interpreted, modernizing candlestick analysis in the West.

The intuitive way that candlestick charts present market data transformed Western markets. Computers were soon programmed to build candlestick charts from raw data, replacing labor-intensive hand-drawn charts. Today, nearly every online stock trading portal includes candlestick chart-making functionality, making it easy for ordinary people to chart markets and identify trends from their home computers.

A sample candlestick chart of the S&P 500 overlaid with a trend line.

WHY ARE CANDLESTICK CHARTS IMPORTANT?

Candlestick charts are the foundation of modern technical analysis. They are adaptable to many different markets, including stocks, commodities, derivatives, and forex.

Their presentation of price movements and the underlying market psychology is formatted in an intuitive graphical format that allows traders to visualize trends and spot possible trades at a glance.

Candlesticks, as powerful as they are, should not be used in isolation to make trading decisions. Modern computer charting software allows traders to overlay trend lines and other technical analysis tools, such as Fibonacci levels and Bolliner Bands, to determine entry and exit points on trades.

Discover how candlestick charts are used to identify trading opportunities in live trading sessions twice a day by tuning in to chief market strategist Gareth Soloway’s Verified Game Plan at 9:00 am and Trading The Close at 3:55 pm Monday through Friday on Verified Investing.com