Have you started using technical analysis yet? If so, one pattern you'll want to get to know is the inverted hammer candlestick. It’s a great tool that you can use to try to spot market reversals. But as with all indicators, it comes with its challenges. The inverted hammer pattern needs to be used correctly in order for it to work.
In this article, we'll go back to basics with the inverted hammer and show you how to spot it on your charts, how to combine it with other chart patterns to strengthen it as a reversal signal, plus we’ll explain its benefits and drawbacks while giving you some case studies.
Remember, as with all chart patterns, you can first try to identify it using a Dukascopy demo account, before trading it live.
If you're new to candlestick patterns, the inverted hammer is an excellent pattern to begin with. It's one candlestick that can indicate a shift in the market's direction. In simple terms, it’s a bullish reversal formation that typically appears when prices are declining, indicating that the market may soon change direction. It can be used for currency and commodity markets, and even crypto and ETFs.
The inverted hammer is easy to spot on a chart. It has a small real body at the bottom of the candlestick, with a long upper shadow that’s at least twice as long as the body.
This long upper shadow shows that buyers have tried to push the price higher during the session, but sellers have pushed it back down. Despite this tug of war between the two, the fact that the price closed near the opening level tells us that the buyers might be gaining control.
But, and this is important, an inverted hammer by itself isn’t always a guarantee that the market will reverse. To really confirm a potential reversal, traders usually wait for the next candlestick to close above the high of the inverted hammer. That confirmation can give you the green light to start thinking about buying.
Spotting the inverted hammer is fairly simple once you know what to look for. This should help:
See if you can spot the inverted hammer on the image below which is taken from the USDCHF JForex chart.
Let’s say the market has been in a downtrend for some time. You’re watching the price chart, and an inverted hammer forms. The candle has a small body near the bottom of the range and a long upper wick. Now, if the following candle closes above the high of the inverted hammer, that’s your signal that the market might be about to reverse.
This kind of setup can be a great opportunity for a bullish reversal—but remember, it’s not a guaranteed win. Always confirm it with the next candle and be mindful of the broader market context.
You’ve been watching a stock that’s been going down for a while, let’s say Tesla. The price keeps falling, and then—boom—an inverted hammer appears. It has a little body near the bottom and a long wick sticking up.
What do you do?
You wait. This pattern could mean the market might turn around, but you don’t jump in just yet. You need confirmation. If the next candle closes above the high of the inverted hammer, you can place a buy order. And sure enough, the price starts going up, just like the pattern suggested. You timed it right!
You see that inverted hammer forming after a downtrend, but there's a catch: the volume is low. That means not a lot of traders are jumping in. This is like trying to start a party, but only a couple of people show up.
What do you do?
You wait. Without enough volume, you’re not convinced the move will last. You let the next candle close, and if the price doesn’t break above the high of the inverted hammer, you skip the trade. Low volume means it’s not the time to act. You hold off and avoid a risky trade.
The stock has been falling for days, but it just hit a key support level—a price point where the stock has bounced back before. Now, you spot an inverted hammer forming right at this support level.
What do you do?
You’re feeling a little more confident. The price is at a spot where it could turn around. You wait for the price to break above the high of the inverted hammer, and when it does, you enter the trade. The market starts moving up, and you’re in the right place at the right time.
So, now that you know what the inverted hammer is and how to spot it, how do you actually trade it? Here are a few strategies that can help you get the most out of this candlestick pattern:
Now, you’ve got the basics down—now it’s time to take things up a notch. Let’s dive into some advanced strategies that’ll help you make the most out of the inverted hammer.
Before you dive into a trade, always check if the market is in a downtrend. The inverted hammer is a reversal pattern, so it works best when the market has been moving down for a while. If the market is just flatlining or moving sideways, the pattern might not carry much weight.
If the market is clearly trending down, that’s your signal that the inverted hammer could actually signal a reversal. The stronger the downtrend, the better the chance that the reversal will hold. Think of it like catching the wave at the right time. You wouldn’t want to jump in too early.
Once you’ve jumped into a trade after spotting the inverted hammer, you’re going to want to think about trailing stops. A trailing stop follows the price as it rises, locking in profits along the way. It’s like setting up a net to catch all the profits if the price keeps climbing. This is super helpful, especially in volatile markets where the price can swing back and forth.
Scaling in is another strategy to consider. This means adding more to your position if the trade starts moving in your favor. So, let’s say the price begins to rise after the inverted hammer forms—this is when you can slowly add to your position, letting the momentum build. But be careful not to get too excited! Add to your position gradually as the trend strengthens. The key is to stay patient and avoid rushing in.
The time frame you use really impacts how reliable the inverted hammer is. For example, an inverted hammer on a 5-minute chart might show a quick reversal, but the move might not last. On the flip side, an inverted hammer on a daily chart carries much more weight because it represents a bigger picture. The longer the time frame, the stronger the pattern tends to be.
Here’s a little tip: check for the inverted hammer on multiple time frames. If you spot it on a smaller time frame and then see a similar pattern on a larger time frame, it’s like getting the green light from two traffic signals instead of one. That added confirmation makes the reversal much more reliable, giving you an extra boost of confidence.
A simple and effective bullish reversal signal.
Works well after a downtrend, making it easier to spot.
It can be combined with other indicators for added confidence.
It’s not always reliable on its own—confirmation is crucial.
It can lead to false signals in choppy or volatile markets.
The inverted hammer may appear during market consolidation, making it less effective.
Now, how do you actually trade the inverted hammer pattern with Dukascopy? Here’s a simple step-by-step guide to get you started:
Trading volume is essential to trading. Compare it to a sports game. If there’s no crowd, there’s no energy and it’s hard for the players to motivate themselves. Likewise with trading. When you spot an inverted hammer, remember to check the volume as it can help you decide whether the pattern is worth trusting or not.
If you see the inverted hammer with low volume, that could be a warning sign. That’s because the buyers might be trying to push prices higher, but without enough people getting involved, it’s hard to be confident that the move will stick.
On the other hand, if the inverted hammer appears with high volume, that’s a big deal. High volume means the buyers are stepping up, like a loud crowd at a game. You feel the energy, the momentum. The more volume, the more likely the reversal could actually happen. It’s like having the support of a full stadium. More people buying in suggests the trend could be turning around.
Volume also plays a big role in your risk management. When the volume is high, it’s like having the crowd on your side—you’re more confident. You can afford to tighten your stop-loss, knowing there’s more backing up the move. But when the volume is low, things are shakier. It’s better to play it safe and widen your stop-loss, just in case the market doesn’t follow through.
So, next time you see an inverted hammer, don’t just focus on the candlestick—check the volume. It’s the extra factor that makes the pattern much stronger.
When you spot an inverted hammer on your chart, it’s not just about recognizing a candlestick. It’s about reading the mood of the market. It's like watching two boxers duke it out, and the inverted hammer gives you a peek into who’s throwing punches and who’s on the ropes.
Picture this: the market is like a tug-of-war. Constant push and pull between buyers and sellers. Sellers start strong, pulling the price down, but then the buyers jump in. They push the price back up, creating that long wick above. It’s like the buyers just had a burst of energy—only to be knocked back down as the sellers bring the price back down, leaving a tiny body near the bottom.
So, what’s going on here? Well, the fact that the buyers even attempted to push the price up shows they’re not ready to quit. They might not have won this round, but they’re showing some muscle. And that’s the heart of the inverted hammer. It’s a sign of indecision. The market isn’t sure which side will win. The sellers still have some control, but the buyers are definitely gaining ground. The result? The market could be ready to shift.
Here’s why the inverted hammer is so useful when you’re trading. it’s basically an alert that can warn you that things could change direction soon. The longer that wick, the stronger the battle, and the more likely it is that the trend could reverse.
But here’s the thing: an inverted hammer isn’t a free pass to jump in. It’s a hint rather than a guarantee. The next candlestick would need to confirm the reversal. If the price closes above the high of the inverted hammer, that’s when you can start readying yourself for the trade. The psychology behind the inverted hammer gives you a heads-up, but confirmation is key.
The inverted hammer is a powerful pattern, but when you pair it with other candlestick patterns, you can give your trading a power boost., Let’s look at some other patterns that work well with the Inverted Hammer
When an inverted hammer is followed by a bullish engulfing, it's like the market just gave you a high-five. A bullish engulfing occurs when the current candle completely engulfs the body of the previous bearish candle. When these two patterns line up, it’s a strong signal that a reversal is in the works.
While the inverted hammer shows indecision, the bullish engulfing can be a clear sign that buyers are taking charge.if you put them together, it’s like the market is sending you a second confirmation that the trend could be shifting—so now it’s time to sit up pay attention.
The morning star is another pattern that pairs perfectly with the inverted hammer. This three-candle formation starts with a big bearish candle, followed by a small one (often an inverted hammer), and finishes with a large bullish candle.
When the inverted hammer shows up in the middle, it’s like the market is starting to shake off the slumber and prepare for an upward move. The morning star gives the inverted hammer more context, confirming that a reversal is looking increasingly likely. When these two patterns appear together, you've got a pretty solid indication that a bullish reversal could be coming your way.
The inverted hammer is a powerful tool in your trading arsenal, but it’s not a pattern to rely on blindly. It can signal a potential bullish reversal after a downtrend, but only if you get confirmation from the following price action. Remember, combining the inverted hammer with other indicators and being mindful of the broader market context will increase your chances of success. If you take the time to learn how to spot and trade it correctly, this candlestick pattern can help you make more informed trading decisions and boost your overall strategy.
No, the inverted hammer is generally a bullish reversal signal. It shows up during a downtrend and suggests that the market may be preparing to move upward.
Yes, the inverted hammer is typically a bullish pattern, particularly when it forms after a downtrend. Traders often see it as a potential sign that buyers are gaining control.
Although they look similar, the shooting star and the inverted hammer are different. The shooting star forms during an uptrend and signals a potential bearish reversal, while the inverted hammer forms during a downtrend and signals a potential bullish reversal.
The inverted hammer can be profitable, but like all patterns, it’s not foolproof. It works best when confirmed by the next candle and combined with other indicators. Remember, risk management is key.
Both the hanging man and inverted hammer have similar shapes, but they occur in different market conditions. The hanging man forms during an uptrend and is a bearish signal, while the inverted hammer forms during a downtrend and suggests a bullish reversal.