The hammer candlestick pattern is to be considered a strong reversal signal, especially after a prolongued downtrend.
The day of the hammer candle, at the start there is strong selling clima, then the price recovers and it closes around the open price, slightly below or above.
Hanging man is exactly the same candle and with the same reversal feature of the hammer but after a long uptrend instead.
The hanging man pattern is a warning of potential price change, but not by itself a signal to go short.
Both the Hammer and the Hanging Man patterns look exactly the same and they both show:
• A candle body near the top of the candlestick; and
• A long lower shadow (around twice of the candle body).
The color of the candle body, whether it be green or red, does not really matter, the information give by these two patterns has the same value:
- The Hammer pattern is found after a market downturn and is a bullish signal,
- The Hanging Man appears at the end of a bull run and is a bearish signal.
What do they mean?
In the Hammer pattern traders who sold in the lower region of the candlestick are then forced to cover their position, contributing to create buying pressure.
The Hanging Man pattern carries the same meaning, but it appears after a long uptrend; it is better to wait for bearish confirmation before going short based on the Hanging Man pattern.
How do we trade it?
1. In a downtrend, buy above the Hammer pattern for a reversal play.
2. In a uptrend, sell below the Hanging Man pattern for a reversal play after bearish confirmation.