What is Dragonfly Doji Candlestick?
A Dragonfly Doji is a type of candlestick pattern that can signal a potential reversal in price to the downside or upside, depending on past price action. It’s formed when the asset’s high, open, and close prices are the same.
The long lower shadow suggests that there was aggressive selling during the period of the candle, but since the price closed near the open it shows that buyers were able to absorb the selling and push the price back up.
A dragonfly doji can occur after a price rise or a price decline.
The open, high, and close prices match each other, and the low of the period is significantly lower than the former three. This creates a “T” shape.
The appearance of a dragonfly doji after a price advance warns of a potential price decline. A move lower on the next candle provides confirmation.
What Does a Dragonfly Doji Candlestick Tell?
A dragonfly doji is considered a signal of a potential reversal in the security price. It occurs when the open, close, and high prices of a security are virtually the same. Thus, a dragonfly doji is T-shaped without an upper tail, but only a long lower tail.
The long lower tail of a dragonfly doji indicates that large amounts of selling have flooded the market, which caused downward pressure on the security price during a certain period. However, at the end of that period, the close price is still able to stay at the level of the open price. It suggests that buyers in the market are able to absorb this much selling and pull back the price.
A dragonfly doji can be an indicator of a reversal in price. When the price of a security has shown a downward trend, it might signal an upcoming price increase. It is a bullish dragonfly in this case. If the candlestick right after the bullish dragonfly rises and closes at a higher price, the price reversal is confirmed, and trading decisions can be made.
Limitations of Using the Dragonfly Doji
The dragonfly doji is not a common occurrence, therefore, it is not a reliable tool for spotting most price reversals. When it does occur, it isn’t always reliable either. There is no assurance the price will continue in the expected direction following the confirmation candle.
The size of the dragonfly coupled with the size of the confirmation candle can sometimes mean the entry point for a trade is a long way from the stop loss location. This means traders will need to find another location for the stop loss, or they may need to forgo the trade since too large of a stop loss may not justify the potential reward of the trade.
Estimating the potential reward of a dragonfly trade can also be difficult since candlestick patterns don’t typically provide price targets. Other techniques, such as other candlestick patterns, indicators, or strategies are required in order to exit the trade when and if profitable.