«A hanging Man»: A Reversal Pattern. Is It the Case in Practice?

Steve Nison in his book “Japanese Candlesticks” suggests identifying “a hanging man” with three main charactreristics:

1. The body is in the upper part of the price range. The body’s color is not significant.
2. The lower shadow two times longer the body.
3. The candlestick has not the upper shadow or it is very short.

The longer the lower shadow is and the smaller the body is, the greater the potential of the “hanging man”.

For the «inverted hammer», the situation is mirrored.

Method of event’s measurement

We will carry out the test against «a hanging man» and «an inverted hammer» in their three combinations regulating the notional parameter the “body” of a candlestick. Let us call it as Т and describe it as a candlestick body plus a small tail which may or may not be included.  

So, we will consider the following combinations:

In the picture, the “hanging man” pattern with different body lengths is shown. The situation is identical for “the inverted hammer”.

Let us discuss conditions of the opening and closing a trading position.

Opening a position:

When the pattern is materialized, a position opens at the opening of a new candlestick:

• A hanging hammer: a sell signal;
• An inverted hammer: a buy signal.

Closing a position:

The lifetime of the position is set at 5, 10, or 15 in all cases.

Having specified all the conditions and set the necessary parameters, we can start testing!

Analysis of the results

First, we will estimate the results based on the sample size.

Т <= 10%

For the 1-hour timeframe (H1):

For the 1-day timeframe (D1):

Т <= 20%

For the 1-hour timeframe (H1):

For the 1-day timeframe (D1):

Т <= 40%

For the 1-hour timeframe (H1):

For the 1-day timeframe (D1):

The total number of candlesticks and events:

Then, we will measure the share of events in % in the total number of initial candlesticks on the basis of timeframes:

For the 1-hour timeframe (H1):

For the 1-day timeframe (D1):

Let us note that the more explicit the patterns are, the less their share, and the less they likely appear on charts. 

Now, we will view the results of the performance of signals of the «hanging hammer» and the «inverted hammer» patterns.

We will assess the results with the two following criteria:

• Momentum (m) reflects the average change in quotes of financial instruments at the moment of closing a position, in %. A positive value of the momentum indicates profitability of the signal performance, a negative value indicates loss-making.
• SPP, the share of profitable positions, %.

Let us consider the results on a term-to-term basis of the hold of positions, timeframes, indicators, and market segments.

We take the following notations:

«H1 / 5», closing a position at the 5^th candlestick over the 1-hour timeframe;

«H1 / 10», closing a position at the 10^th candlestick over the 1-hour timeframe;

«H1 / 15», closing a position at the 15^th candlestick over the 1-hour timeframe;

«D1 / 5», closing a position at the 5^th candlestick over the 1-day timeframe;

«D1 / 10», closing a position at the 10^th candlestick over the 1-day timeframe;

«D1 / 15», closing a position at the 15^th candlestick over the 1-day timeframe;

 «Т», the length of the candlestick body, %;

Volatility coefficient:

• For the daily timeframe: a ratio between the average volatility of 5 candlesticks after the opening of a position and the average volatility of 20 candlesticks preceding the opening a position.
• For the 1-hour timeframe: a ratio between the average volatility of 5 candlesticks after the opening a position and the average volatility of the same hours during the previous 4 days.

If the value of volatility coefficient is more than 1, it indicates a greater volatility after the signal in comparison with volatility before the signal, if the value is less than 1, it is the opposite. 

Т <= 10%

The Number of signals, the Momentum in %, the Share of profitable positions, Volatility coefficient on a term-to-term basis of the hold of positions, timeframes, and market segments

T <= 20%

The Number of signals, the Momentum in %, the Share of profitable positions, Volatility coefficient on a term-to-term basis of the hold of positions, timeframes, and market segments

T <= 40%

The Number of signals, the Momentum in %, the Share of profitable positions, Volatility coefficient on a term-to-term basis of the hold of positions, timeframes, and market segments

Let us summarize the obtained results using the following diagrams:

Detailed results are shown in the Appendix:

XLSX (0.10 MB)Application to the article 'The pattern 'Hanged man - a reversal pattern. Is this the case in practice'.xlsx