In this guide to understanding the Hammer Candlestick Formation, we’ll show you what this chart looks like, explain its components, teach you how to interpret it with an example, and discuss how to trade on a Hammer.
What Is the Hammer Candlestick Formation?
The Hammer candlestick formation is viewed as a bullish reversal candlestick pattern that mainly occurs at the bottom of downtrends.
The Hammer helps traders visualize where support and demand are located. After a downtrend, the Hammer can signal to traders that the downtrend could be over and that short positions could potentially be covered.
What Does the Hammer Candlestick Look Like?
The Hammer formation is created when the open, high, and close prices are roughly the same. Also, there is a long lower shadow that’s twice the length as the real body.
When the high and the close are the same, a bullish Hammer candlestick is formed.
In contrast, when the open and high are the same, the red Hammer formation is considered less bullish, but still bullish.
If the Hammer is green, it is considered a stronger formation than a red hammer because the bulls were able to reject the bears completely. Also, the bulls were able to push up the price past the opening price.
Is a Red Hammer Bullish?
A red Hammer candlestick pattern is still a bullish sign. The bulls were still able to counteract the bears, but they were just not able to bring the price back up to the opening price.
Long Lower Shadow
The long lower shadow of the Hammer implies that the market tested to find where support and demand were located. When the market found the area of support, the lows of the day, bulls began to push prices higher, near the opening price.
Thus, the bearish advance downward was rejected by the bulls.
What Does the Hammer Candlestick Mean?
Chart 2 below of American International Group (AIG) stock illustrates a Hammer reversal pattern after a downtrend:
Chart 2 shows that the market began the day testing to find where demand would enter the market. AIG’s stock price eventually found support at the low of the day.
There was so much support and subsequent buying pressure, that prices were able to close the day even higher than the open, a very bullish sign.
How Do You Trade on a Hammer Candlestick?
Other indicators should be used in conjunction with the Hammer candlestick pattern to determine potential buy signals.
- Most traders will wait until the day after a Hammer pattern forms to see if a rally continues or if there are other indications like a break of a downward trendline.
- Previous day’s clues could enter into a trader’s analysis. An example of these clues, in Chart 2 above, shows three prior day’s Doji’s (signs of indecision) that suggested prices could be reversing to an uptrend. For an aggressive buyer, the Hammer formation could be the trigger to potentially go long.
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Below we answer some common questions about Hammer Candlestick patterns.
Is a Hammer Candlestick bullish?
Typically, yes, the Hammer candlestick formation is viewed as a bullish reversal candlestick pattern that mainly occurs at the bottom of downtrends. However, most traders are wary of acting solely on the Hammer indicator and are advised to seek other indicators like the prior days’ Doji formations to confirm the possibility of an uptrend.
Is an Inverted Hammer bullish or bearish?
Like the Hammer, an Inverted Hammer candlestick pattern is also bullish. The Inverted formation differs in that there is a long upper shadow, whereas the Hammer has a long lower shadow. The Inverted Hammer candlestick formation typically occurs at the bottom of a downtrend. It can act as a warning of a potential reversal upward.
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