Inverted Hammer Candlestick Pattern 

What Is the Inverted Hammer Candlestick? 

It is a pattern that appears on the price chart at the bottom of a downtrend. It indicates that the downtrend may have reached its end and portends a potential bullish reversal. 

To confirm the validity of this pattern’s signal, monitor the next day’s candle (the confirmation candle) to see whether prices will continue to rise or decline again. 

Hammer vs. Inverted Hammer 

Both patterns signal a bullish reversal, and both appear at the bottom of a downtrend. The difference lies in their shape and formation: 

• The Hammer is characterized by a small body at the top and a long lower tail or wick. The Inverted Hammer is characterized by a small body at the bottom and a long upper tail or wick. 

• The Hammer is formed by sellers forcefully pushing the price down, followed by buyers regaining control, pushing the price back up, and closing at a higher level. The Inverted Hammer is formed as a result of buyers forcefully pushing the price up, only for sellers to intervene and bring the price back down before the close. 

Mechanism of the Inverted Hammer Pattern Formation 

A small candle body forms at the bottom, and a very long tail extends upwards, which is the most important part in identifying the pattern. The lower tail is very small or almost non-existent. 

The long upper tail or wick indicates that buyers attempted to push prices strongly upward during the trading session. However, the price retreated slightly to close near the opening price, forming the small candle body at the bottom. 

This strong push by buyers suggests that sellers are about to lose control and that a potential upward reversal is looming. 

Red Inverted Hammer vs. Green Inverted Hammer 

The Red Inverted Hammer has the same shape as the traditional Inverted Hammer, a small lower body and a long upper tail or wick. However, unlike the standard Inverted Hammer, this pattern is considered a bearish signal. It indicates that despite buyers’ strong attempt to push the price higher, sellers’ control was stronger, leading to a close below the opening price, giving a bearish signal. 

In contrast, the Green Inverted Hammer is simply another name for the traditional Inverted Hammer, and, unlike the Red Inverted Hammer, it is considered a bullish signal. It means that the closing price was higher than the opening price. Buyers returned strongly at lower prices, slowing the declines and suggesting that a potential upward trend reversal is about to occur. 

A green candle that follows serves as strong confirmation of the bullish reversal, or a breakout of a significant resistance level above the candle price. 

Market Psychology in the Inverted Hammer Candlestick 

This pattern reflects the psychological drivers behind the shift of control from sellers to buyers and how this shift began from the bottom: 

• Before the candle appeared: The Bears (sellers) were confidently in control, pushing the price down, and market sentiment remained pessimistic as the downtrend continued. 

• During the formation: Meanwhile, the market saw an increase in the number of new Bulls (buyers) as the low price appeared attractive to them. The increasing buying pressure pushed the price up strongly, which is where the long upper tail of the candle formed. The Bears intervened and pushed the price down in the last moments, closing near the opening price, forming the small body of the candle. 

• Post-formation: The appearance of the candle on the chart indicates a state of hesitation in the market, increasing the confidence of the Bulls (buyers) and the onset of uncertainty among the Bears (sellers). 

• Confirmation: If a strong bullish candle forms on the following day, it leads to the Bears losing confidence in the continuation of the downward momentum, with the Bulls increasing their buying positions, driven by the bullish signal. 

Four Main Scenarios for the Inverted Hammer Pattern 

The candle’s signal is strongest when it is associated with one of these four scenarios: 

• Near or at the Bottom of a Downtrend: The candle’s appearance means that the Bears (sellers) have exhausted their strength and the Bulls (buyers) have started entering, foreshadowing a potential bullish reversal. 

• Near a Significant Support Level: Since this level acts as a barrier, the mere appearance of the candle at this level signifies that the Bulls (buyers) aggressively rushed in to defend the price. This strongly confirms the probability of a bullish reversal. 

• With Declining Selling Pressure: The candle’s appearance and the formation of its long tail indicate that the Bears (sellers) are refusing to sell at a lower price, which points to a potential reversal. 

• With Increased Trading Volume: The candle’s appearance, accompanied by an increase in buying by the Bulls, signals a potential bullish reversal. 

Technical Analysis of the Inverted Hammer Candlestick 

1. Spotting the Pattern: Ensure a candle with a small body and a long upper tail or wick appears at the end of a downtrend on the chart. 

2. Understanding the Signal: Ensure you understand the candle’s formation and signal: the small body at the bottom reflects light buying pressure, and the long upper tail reflects a rejected selling pressure, as the Bulls (buyers) attempted to push the price up strongly, suggesting a potential trend reversal. 

3. Monitor Volume: Observe the trading volume during the candle’s formation. An increase in volume indicates strong buying demand and strengthens the pattern’s signal. Conversely, a decline in volume weakens the pattern’s credibility. 

4. Analyze Subsequent Action: Pay attention to the price action following the candle. If a strong bullish candleappears afterward, it confirms that buyers have started gaining control and validates the reversal. 

5. Risk Management: To manage risk, place a stop-loss order below the lowest point of the candle’s tail to minimize losses should the reversal fail and the decline continue. 

Remember: Consistent practice, analysis, and responsiveness to changing market conditions are what will strengthen your observation of these patterns and enhance your trading. 

Drawbacks of the Inverted Hammer Candlestick Pattern 

Despite the ease of recognizing this pattern’s distinctive shape on the chart and its common use by trading professionals, it has certain disadvantages that you should be aware of: 

• Like any other technical analysis tool, this pattern sometimes produces false signals. The pattern may appear, but the expected bullish reversal does not occur. 

• It cannot be relied upon alone, it must be confirmed with other indicators. 

• The reversal signal it generates lacks clear and specific entry and exit points, so it must be combined with other technical analysis tools (such as momentum indicators, Fibonacci, and trend lines). 

• Its reliability varies depending on the timeframe used (hourly, daily, weekly). 

• The analysis and interpretation of this pattern are subjective and vary from trader to trader, leading to differences in trading decisions. 

In nutshell 

The Inverted Hammer candlestick pattern is profitable when traders understand and execute it accurately. The pattern’s effectiveness and reliability depend on your ability to identify reliable patterns and understand market dynamics. 

Remember that the Inverted Hammer pattern alone does not always guarantee a bullish reversal. Therefore, be sure to incorporate other technical analysis tools to confirm the pattern and mitigate risks. 

You can start trading through a Naqdi demo account to apply different trading strategies, understand various chart patterns, and learn how to distinguish and identify them before actually engaging in the financial markets. 

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