In candlestick chart trading, the Doji pattern is one of the most visible reversal signals in the market. In essence, Doji is a key trend reversal pattern. However, it can also signal a pause in the trend. It all depends on the location and where it’s positioned within the trend.
The Doji candlestick, also called a Doji star, shows indecision between buyers and sellers in the crypto market. This type of candlestick is confirmed on a technical analysis chart when the opening and closing prices are almost identical.
What is a Doji pattern on the candlestick chart?
In simple terms, a Doji shows that an asset’s buyers and sellers offset each other. In doing so, any attempts to push up the price by the buyers get thwarted by the sellers. Similarly, efforts to crash the prices from the sellers’ end get foiled by the buyers.
Ultimately, both parties bring the price to a pivot level. So, for example, when Bitcoin
BTC$17,027 opens and closes at $20,000 on a particular day even if its price seesawed between $25,000 and $15,000 throughout the given24-hour period.
So the $25,000 price level — or the intraday high — represents the Doji’s upper wick, and the $15,000 price level — the intraday low — represents the candlestick’s lower wick.
How does a Doji candle work?
Doji candlesticks have historically helped traders predict market bottoms and tops as a calm before the storm of sorts.
For example, a Doji candlestick that forms during an uptrend could signify bullish exhaustion, i.e., more buyers moving to the sellers’ side, typically leading to a trend reversal.
It is valid to note that the Doji pattern does not necessarily mean that there will always be a trend reversal. Instead, it shows indecision among traders about future trends.
Hence, it’s better to confirm the Doji candlestick signal with the help of additional technical indicators. For instance, a technical indicator like the relative strength index (RSI) and/or Bollinger bands can give more weight to what the Doji pattern suggests.
Related: 5 More Bullish Candlestick Patterns Every Bitcoin Trader Must Know
How to deduce a Doji candle
What to do when a Doji appears in a candlestick chart? Whether you are a new trader or an experienced one, taking a stance during market indecision is difficult. But preparing yourself with knowledge is possibly the best protection you can choose to avoid making mistakes. Doji, in itself, is trend neutral, meaning it doesn’t indicate any trend reversal. But a Doji with other candles from the chart can confirm a change in trend.
Each candlestick has four parts, namely, an opening and closing, and high and low prices of the day. Looking at it will give you an idea about the price movement of an asset. The opening and closing prices together create a thick section, called the body. Higher the difference between the opening and closing prices, the longer will be the real body of the candle. On either side, the highest and lowest prices of the stock create shadows or wickers.
Many technical traders interpret a Doji candle as an indication of a trend reversal, so they choose to ‘pause and reflect’ for more convincing patterns to appear. For instance, if a Doji candlestick appears during an uptrend, it may imply that buying momentum is slowing down. But it can also be momentary indecision, and the market may continue to move in the same direction afterward. So, if you plan your strategy based on a single Doji pattern, you may get it wrong.
Doji Candlestick vs Spinning Top
Now, Doji and Spinning Tops both are quite similar in nature and feature, represent market indecision. If the real body of the candlestick is around 5 percent of its total size, it is called Doji; otherwise, a Spinning Top. When either appears in a trading chart, look for other indicators like Bollinger Bands before planning entry or exit.
Types of Doji patterns and how to trade them
Doji patterns can vary depending on the position and length of the shadow. These are the most popular variations:
Neutral Doji
The neutral Doji consists of a candlestick with an almost invisible body located in the middle of the candlestick, with the upper and lower wicks of similar lengths. This pattern appears when bullish and bearish sentiments are balanced.
Traders can combine the neutral Doji with momentum indicators like the RSI or Moving Average Convergence Divergence (MACD) to help identify potential market tops and bottoms.
For instance, a neutral Doji occurrence in an uptrend coinciding with an overbought RSI (>70) could point to an imminent market correction. Similarly, the candlestick’s occurrence in a downtrend when the RSI has turned oversold (<30) could precede a market rebound.
Long-legged Doji
The long-legged doji has longer wicks, suggesting that buyers and sellers have tried to take control of the price action aggressively at some point during the candle’s timeframe.
Traders should carefully monitor the candlestick’s closing price when identifying a potential long-legged Doji.
Notably, the Doji is a bearish signal if the closing price is below the middle of the candle, especially if it is close to resistance levels. Conversely, if the closing price is above the middle of the candle, it is bullish, as the formation resembles a bullish pin bar pattern.
If the closing price is right in the middle, it could be considered a trend continuation pattern. In this case, one can always refer to previous candles to predict future trends.
Dragonfly Doji
The Dragonfly Doji appears like a T-shaped candle with a long lower wick and almost no upper wick. It means that the open, the close, and the high price are almost at the same level.
If the Dragon Doji pattern forms at the end of a downtrend, it can be considered a buy signal, as shown below.
Conversely, the candlestick’s occurence during an uptrend hints at a potential reversal.
Gravestone Doji
A Gravestone Doji represents an inverted T-shaped candlestick, with the open and close coinciding with the low. The candlestick indicates that the buyers attempted to increase the price but could not sustain the bullish momentum.
When the Gravestone Doji appears in an uptrend. it can be considered a reversal pattern. On the other hand, its occurrence in a downtrend hints at a potential upside retracement.
Four Price Doji
The Four Price Doji is a pattern that rarely appears on a candlestick chart except in low-volume conditions or very short periods. Notably, it looks like a minus sign, suggesting that all four price indicators (open, close, high and low) are at the same level over a given period.
In other words, the market did not move during the period covered by the candlestick. This type of Doji is not a reliable pattern and can be ignored. It just shows a moment of indecision in the market.
How reliable is the Doji candle pattern?
The Doji candlestick pattern may not provide the strongest buy or sell signals in technical analysis, and should likely be used alongside other metrics. Nevertheless, it is a useful market signal to consider when gauging the degree of indecisiveness between buyers and sellers.
Building a trading strategy based on Doji candle patterns is best suited for experienced intermediate or professional traders who can easily identify and accurately interprthe given signals.
This article does not contain investment advice or recommendations. Every investment and trading move involves risk, and readers should conduct their own research when making a decision.
Conclusion
Technical traders use candlestick charts to cut the noise in the market and understand price movement. However, like other tools, candlestick charts alone aren’t indicative of any change. Similarly, Doji has its limitation. The isolated Doji candlestick pattern is neutral and not a confirmation of possible trend reversal. The size, pattern, and location where the Doji formed can reveal more about changing sentiment. Some traders also find the Double Doji pattern a more convincing indication of a trend change.
