This screenshot of MT4 shows a price chart for GBP/USD. MetaTrader 4 provides you with live forex pricing. Usually, a broker receives these market prices from the interbank market and its top-tier liquidity providers. Receiving these prices directly from the interbank proves that MetaTrader connects you to the global marketplace. So, how to read these free trading charts?
How to read trading charts
Knowing how to read charts is an essential skill for technical analysis, even though comprehending it may seem rather entangling. Let us start from the basic concepts underlying in all types of trade charts.
- The price and time axis
- Pips and the exchange rate pricing
- Chart types (Line, Bars and Candlesticks)
- Time frames
The price and time axis
The structure of all trade charts is pretty the same. Their frame is formed by two axes, horizontal X and vertical Y, reflecting the time (X) and the exchange rate price of the chosen instrument (Y) respectively. Easy-to-use interface includes a zoom function which allows receiving more data about the price in a certain time period to see the retrospective of price movements. The charts are read from left to right if the intention is to see the historical change of the price from the past up to now.
For example, a certain chart displays the exchange rate has fallen. This means that within a determined time frame the market is a downtrend. Inversely, if the exchange rate has risen, this means that during the same time the market is an uptrend. Although the logic seems very simple, this insight may become very important for your trading: once the trend has started, the same-direction movement can continue for an extended period of time.
Pips and the exchange rate
The pip or "percentage in point" is a standardized unit and is the smallest amount by which a currency quote (or any other financial instrument price) can change. It is equal to $0.0001 for USD-related currency pairs, which is more commonly referred to as 1/100th of 1%, or one basis point. Such a small size of the pip helps to protect investors from huge losses in case of swift market movements. If the pip's size was bigger than 0.0001, the possible losses at the same price move would have been enormous.
Usually, currencies are measured in four decimal prices except for the Japanese yen pairs, which are measured in two decimal prices. However, due to algorithmic trading performed by trading robots, most platforms offer precision pricing for transactions executed within a second. That's why there is often another (the 5th) number in the exchange rate.
In the part of the forex chart above, you can see the highest price level for the GBP/USD pair, which is 1.27560. The lowest price in this chart is 1.26850. If we calculate the difference between these two numbers, we'll see the market declined by 0.0071 or 71 pips. For example, trading a deal in size of 1 lot, 1 pip may cost $10. Look at the two scenarios:
- If you bought at 1.2756 and sold at 1.2685, you would have lost 71 pips. If one pip is worth $10, then you have lost $710 (71 pips * $10).
- If you sold at 1.2756 and bought back at 1.2685, you would have gained 71 pips. This means you could have made a profit of $710.
Types of trading charts (Line, Bars and Candlesticks)
MetaTrader Platform offers three different options to observe live exchange rate changes: in the line charts, bar charts or candlestick charts. Forex software based on MetaTrader 4 allows switching between these chart types by selecting the View - Toolbars - Standard option.
This type of chart reflects the line, connecting the closing prices within the determined timeframe. For example, on a one-month time frame chart, the line connects the closing price of each trading day of the past month. The line chart helps traders to identify trends.
OHLC bar charts
An OHLC chart is a sequence of bars for a certain time period. Each bar shows the open, high, low and closing prices over one unit of time, e.g., one hour or one day (OHLC - the Open, High, Low, and Close).
The left dash of every bar shows the opening price and the right dash shows the closing price. The highest point of every bar reflects the highest price traded on the market during the chosen unit of time. The lowest point of every bar reflects the lowest price traded on the market during the selected period.
Now about the colour. The green bars are the buyer bars where the closing price is above the opening price. The red bars are the seller bars where the closing price is below the opening price.
In total, the bar charts help to identify who is in control of the market: buyers or sellers.
These bars form the basis of the next chart type called candlestick charts, the most popular type of forex charts.
You will be surprised to know that candlestick charts were first used by Japanese rice traders in the 18th century. They are similar to OHLC bars because they also give the open, high, low and closing prices for a specific time period.
The difference between the OHLC bar chart and the candlestick chart lies in the elements. The candlestick bar has the main element, a "box" between the open and closing prices, known as the 'body' and the thin line at the top and the bottom of the body known as the shadow. The image of the bar with the shadow makes this element similar to a candle, that is why the candlestick chart has got its name. The function of the shadow in this chart will be explained later in the article.
Time frames: the units of time in a chart
The selection of time frame depends on the analytical needs and trading strategy of a particular trader. MetaTrader 4 allows analyzing a variety of time frames:
- The monthly, weekly and daily forex charts suit traders who hold positions for long periods of time or use swing trading or positional trading styles.
- The four-hour, hourly and thirty-minute forex charts suit traders who prefer intraday trading and hold positions for a few hours or a few days.
- The 15-minute, 5-minute and 1-minute forex charts suit traders who hold positions for very short periods of time.
While analyzing OHLC bar charts or candlestick charts, you will notice a new bar or candle formed at the end of each unit of time. For example, if you analyze a chart with a 5-minute time frame applied (M5), you will see: a new bar is formed every five minutes.
Why forex traders love candlestick charts
Candlestick charts are highly informative. It is not only the information every chart element contains, but also regularly repeated patterns that help traders to see the oncoming changes.
These patterns help to see the short-term direction and predict the bullish or bearish trend. Just one element, a candlestick, is able to reflect many parameters such as the market's open, high, low, and the closing price over the unit of time.
The colour of the body indicates the result of close. When the candle is red or black, it means the close was lower than the open. If the candle is white or green, it means the close was higher than the open.
The shadows, long or short, show the high and low prices within the time frame.
Bullish Candlestick Chart Patterns
The hammer candle is the result of resistance, showing that the sellers are pushing the market to a new low and then the buyers are pushing it all the way back up. When the open and close prices are both situated in the upper half part of the candle, it means a rejection of the downside and possible strength to the upside in the future.
The bullish harami is a combination of the red candle followed by a green candle pattern which represents indecision in the market and the possibility of a breakout from it. The "inside candle" is another name for it since the second candle is formed inside the first one's highs and lows.
The bullish engulfing is a combination of a red candle followed by a green candle pattern which represents a strong positive shift in sentiment of the market. Generally, the green candle totally engulfs the red candle's high to low price range suggesting a possible growth.
Bearish Candlestick Chart Patterns
The inverted hammer (or a shooting star) shows that buyers are pushing the market to a new high and then the sellers pushing it all the way back down. With the open and close price levels in the lower half of the candle, it represents a rejection of the upside and a possible move to the downside next.
The bearish harami is a green candle followed by a red candle pattern which represents indecision in the market and the possibility of a breakout from it. These are also called 'inside candle' formations as one candle forms inside the previous candle's high to low price range.
The bearish engulfing is a green candle followed by a red candle pattern which represents a strong downside shift in sentiment of the market. The red candle totally engulfs the green candle's high to low price range suggesting movement downside.
Reading the candlestick patterns
In the section above we have described the candlestick charts and the patterns they form. Now let's check, whether you are able to identify some of these patterns in the chart. Under the first chart you will see the answers.
Find in the chart:
- The Inverted Hammer
- The Bullish Engulfing
- The Bearish Harami
- The Bullish Harami
Now look at the answers. How many patterns have you managed to find?
All three types of charts mentioned in the article are unique, and candlestick charts stand out the most. Identifying and analyzing patterns from candlestick charts helps traders to foresee possible turning points and the beginning or end of the market cycles.
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This material does not contain and should not be construed as containing investment advice, investment recommendations, an offer of or solicitation for any transactions in financial instruments. Before making any investment decisions, you should seek advice from independent financial advisors to ensure you understand the risks.