Evaluating the Effectiveness of Candlestick Analysis in
Forecasting U.S. Stock Market
Mengjiao Wang
University of Oxford，
Wellington Square, Oxford, OX1 2JD, UK，
+44 07592363548
mengjiao.wang97@gmail.com
ABSTRACT
Predicting the stock market trend has drawn wide attention from
the public, industry, and academia. There are various strategies for
investment, ranging from the buy-and-hold strategy that let time
makes money to high-frequency trading based on complicated
models of machine learning. For the general public, the
candlestick analysis is a simple and straightforward way to predict
the market trend and help make decisions on buy and sell.
However, the general effectiveness and validity of such
methodology are understudied, and many previous guidebooks on
candlestick analysis were based on specific cases and the
summary of prior experiences, but lack unbiased and rigorous
confirmation. Here, we aim at evaluating the effectiveness of
multiple famous candlestick patterns based on recent data of 20
U.S. stocks. By estimating the fraction of correct guesses and
expected return, we were able to show that three of the four
patterns under scrutiny were not effective in generating profitable
outcomes, but one of them do provide valuable information on
market trend reversal. Although testing more candlestick patterns
and using more test data may lead to the discoveries of more
patterns being significantly profitable, our results call for scrutiny
and scientific guidance for the general public when applying the
candlestick analysis, and questions the general validity and
applicability of such analyses.
CCS Concepts
• Applied computing → Computers in other domains
Keywords
Candlestick; Trading strategy; Stock price; Technical analysis
1. INTRODUCTION
The financial market has drawn international attention from
investment companies, individual investors, and academic
institutions [1]. The main focus is to predict stock prices at a high
accuracy. Many factors can affect stock prices, including
economic, political and psychological factors. It is not an easy job
for individual investors to grasp all these factors on a daily basis.
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© 2019 Association for Computing Machinery.
ACM ISBN 978-1-4503-6634-2/19/03...$15.00
https://doi.org/10.1145/3314545.3314555
98
Yujing Wang
University of Central Lancashire
FYLDE RD, Preston, PR1 2HE，UK
+86-18985650050
909768590@qq.com
Fortunately, all these factors will be ultimately reflected on the K-
line chart [2]. Stock price forecasting based on K-line charts
allows investors to have a low-cost view of the market.
Multiple methods were previously used for the stock price
prediction. Among them, large-scale data mining and machine
learning, which has been widely applied in various fields
including engineering [3, 4] and bioscience [5, 6], is the hottest
area of research for stock price prediction. Almost three decades
ago, Schöneburg et al. assessed the possibility of predicting stock
price over a short-term period with neural networks [7]. Their
results were quite encouraging. Within 10 days, they achieved a
high accuracy of up to 90%. More recently, Adebiyi A.Ariyo et al.
presents the extensive process of building a stock price predictive
model using the ARIMA model. Results revealed that the ARIMA
model has a strong potential for short-term prediction and can
compete favorably with existing techniques for stock price
prediction [8].
However, for individual investors that do not have access to high-
performance computing facilities and lack in-depth knowledge of
machine learning, they are more concerned with simpler methods.
One of such methods was the candlestick analysis [9]. In such an
analysis, if the stock closes lower than the opening, a filled
candlestick is drawn. The top and bottom of the body represent
the opening and closing prices, respectively. The high and low
whisks represent the high and low price, respectively. Candlestick
analysis is a short-term technique to predict stock price changes
based on the relationship between open, high, low and close prices.
As a visually appealing way to display the data, candlestick
analysis was very widely used by almost all analysis software and
major websites [10].
There are many published works on candlestick analysis.
However, many of the previous books and papers on candlestick
models are subject to publication bias [11] and data snooping bias
[12]. For instance, many books are based on listing individual
examples where the candlestick analyses were highly effective,
while cases that are less typical or ineffective were not listed. To
avoid such biases of cherry picking, we test the effectiveness of
candlestick analysis using multiple US stock data in an unbiased
manner. By scanning through these stocks in recent years and
evaluating the effectiveness of multiple popular candlestick
patterns, we report the validity of this technique in general. In the
discussion, possible further research is proposed, and suggestions
for investors were provided.
2. METHODS
2.1 Acquiring Stock Price Data
To provide unbiased and updated estimation of effectiveness of
the candlestick analysis, we retrieved a diverse group of 20 stocks
in SP500 since 2010/1/1 to date, and the list of stocks was (5) today has a small body
provided in Table 1.
Bearish Decrease (1) Appears after increasing trend
Table 1. List of companies and stock names Engulfing (2) Yesterday close > open, or is a
Company Name Stock Symbol small body

MMM (3) Today open > close

3M Company
Aetna AET (4) Today open > yesterday
max(close, open)
Apple AAPL
(5) today close < yesterday
eBay EBAY min(open, close)
Facebook FB Bullish Increase (1) Appears after decreasing trend
Johnson & Johnson JNJ Engulfing (2) Yesterday close < open, or is a
JPMorgan Chase & Co. JPM small body
(3) Today open < close
Merck & Co. MRK
(4) Today open < yesterday
Macy's, Inc. M
min(open, close)
Nasdaq, Inc. NDAQ
(5) today close > yesterday
Nike NKE max(open, close)
Nvidia Corporation NVDA
PayPal PYPL Here, since we retrieved a series of 20 stocks over 8 years as a
comparatively large dataset, we used a set of comparatively
ResMed RMD
stringent rules. For instance, we define a large body to be in the
Starbucks Corp. SBUX top 30% of body size compared with the last 30 days, while a
Texas Instruments TXN small body is defined to be in the bottom 30% among that of the
last 30 days. For increasing and decreasing trend, we require a
Thermo Fisher Scientific TMO consecutive of 5 days of increasing or decreasing. Although make
Union Pacific UNP the requirement less stringent would certainly increase the number
of viable cases, there is no reason to suspect that using a set of
Visa Inc V stringent requirements will change the general validity of our
Walmart WMT conclusions.

2.3 Evaluating the Accuracy of Each

2.2 Defining Candlestick Patterns Candlestick Pattern
Candlestick patterns allows plenty of room for personal judgment We used the price after 5 days compared with the next day price
and there lacks a stringent definition for each pattern. To enable to determine whether the price was moving up or down. For a
unbiased comparison and scanning through the large dataset, pattern that predicts an increase in stock price, if the price after 5
based on the general definition of candlestick patterns on the days is higher than the price of the next day, it is assigned as a
guidebook, we used a group of rules to define multiple candlestick correct prediction. Otherwise, it is assigned as an incorrect
patterns (listed in Table 2). prediction. Vice versa for patterns that predicts an decrease in the
stock price.
Table 2. Candlestick patterns
The most straightforward way of evaluating the accuracy of each
Pattern Prediction Rules pattern is by calculating the percentage of correct prediction and
Hanging Decrease (1) Appears after increasing trend then use a binomial test to see if the trend is significant or not. In
man (2) length > 2 x abs(body) this case, we are comparing the candlestick analysis with a
random guess of 50-50 (i.e. throw a coin to determine the short-
(3) high - max(open, close) < 0.1 x term market trend)
length
(4) next day open < min(open, 2.4 Measuring the Profitability of Each
close) - 0.1 x length Pattern
(5) Today has a small body Apart from the percentage of correct predictions, the most
Hammer Increase (1) Appears after decreasing trend important question for candlestick analysis is whether
identification using this pattern can bring about a profitable return.
(2) length > 2 x abs(body) For instance, even if a pattern only works 1/2 of the time, but if
(3) min(open, close) - low < 0.1 x once it correctly predicts the trend, there is a higher return than
length the lost when the pattern does not work, then the pattern is still
(4) next day open < min(open, valuable and generates a considerable return of profit.
close) - 0.3 x length

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3. RESULTS correct guesses were shown in Table 3. A binomial test was used
Candlestick stock analysis focuses on the open, high, low and to calculate the P-values. Many of the patterns were close to a
close prices over a period. The list of patterns and a typical case random guess of 50%, with non-significant p-values. One
from the guidebook were shown in Figure 1. To read the K-line exception was the “Hammer,” with 65% of correct prediction and
chart, when the close price is lower than the open price, the body a p-value of 0.005. Therefore, we think of this pattern being useful
of the candle is black, while if the close is higher than the open, in guiding an investor’s decisions.
the body of the candle is white. Table 3. Candlestick analysis models
Total Correct Binomial
Pattern
number Perc (%) test (P)
Hanging man 33 48% 0.636
Hammer 82 65% 0.005
Bearish
Engulfing
231 45% 0.943
Bullish
Engulfing
142 54% 0.225

(a)
We further evaluated whether the expected return was
significantly different from 0 (Table 4). Using a two-tailed t-test,
we were able to show that none of the expected revenue was
significantly different from 0.
Table 4. The expected return of the candlestick analysis
Pattern Mean return T-test (P value)
Hanging man 0.0023 0.686
Hammer 0.0079 0.117
Bearish
-0.0037 0.135
Engulfing
(b) Bullish
-0.0005 0.897
Engulfing

In summary, using stringent criteria for candlestick analysis, we

were able to show that the use of the oldest known form of the
technical analysis, candlestick trading strategies, is not profitable
on 20 stocks over the 2010-2018 period overall, although one of
the patterns, which is the Hammer, showed a significantly higher
percentage of correct prediction than random guesses.

4. DISCUSSION
(c) Through rigorous hypothesis testing, we tested the oldest
technical analysis of candlestick model in model times. Given the
unbiased and updated dataset used, it is less susceptible to cherry
picking problem than many other guidebooks and previous studies.
Only one of the four candlestick rules are found to have
significant forecasting power, while the other three were not
significantly different from random guesses. Therefore, strictly
following the candlestick model probably won’t generate
considerate returns.

(d) However, it is worth noting that the candlestick analyses were, in

Figure 1. Examples of common candlestick models used in this
study. (a) Hanging man. (b) Hammer. (c) Bearish engulfing. (d)
Bullish Engulfing.
Scanning through the 20 stocks over the past 8 years since
2010/1/1, we summarized the number of cases satisfying the
candlestick pattern criteria listed in Table 2, and the number of
many cases, indicating a trend reversal. That means, the future
trend would be different from the previous market trend, and the
probability of trend reversal is probably not 50% as we assumed
for random guesses. Therefore, instead of using the candlestick
model as the guideline for investment, we may still use it as a
warning signal for market trend reversal to some extent. It would
potentially be interesting to study whether candlestick models

100
were effective in predicting market trend reversal compared with
the baseline of market trend reversal without such reversal signals.
For future research, it would be very fruitful to go through more
candlestick patterns and evaluate its effectiveness in various
sectors to provide individual investors with the up-to-date
guidance for market trend prediction.
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