Heikin is Japanese for "balance" or "average" and Ashi means "bar". The purpose of Heikin-Ashi charts is to create a stable visualization of price movement by eliminating irregularities. Using the Heikin-Ashi technique it is easy to distinguish trends from consolidation periods.
Heikin-Ashi candlesticks are calculated differently to regular Japanese Candlesticks. Regular Japanese candlesticks display the open, high, low, and closing prices for the selected period.
Heikin-Ashi candlesticks use values modified by averaging OHLC values using the formulas below
haClose = (O+H+L+C)/4
haOpen = (haOpen(previous bar) +haClose (previous bar))/2
haHigh = Maximum value of H, haOpen, haClose
haLow = Miniimum value of L, haOpen, haClose
The haOpen is always set to the value of the midpoint of the previous bar, haClose is calculated as the average price and haHigh and haLow are the maximum and minimum values of the set.
The advantage of this technique is it decreases the complexity of information displayed to the chartist. A traditional Japanese candlestick chart can overwhelm the analyst with chart and candlestick patterns that may or may not be meaningful. For the most part this creates confusion and uncertainty for all but the most experienced analyst. Heikin-Ashi replaces this rather complex picture with a much clearer representation of price movement. Instead of showing every price fluctuation, information is reduced to:
Direction of trend
Strength of trend
In essence, Heikin-Ashi candles smooth price. It takes a greater magnitude of price movement to initiate a change of candle colour than with a traditional candlestick chart. The benefit of this is that it reduces the frequency of decision making information facing the analyst. Since it takes a significant change in price to initiate a colour change, it gives a strong indication of the direction price is likely to continue in.
Strength of Trend
The strength of a move can be identified by observing the size of a Heikin-Ashi candle and the position and size of the wick. A powerful up Heikin-Ashi candle has a large body and no lower wick. Conversely a weak up Heikin-Ashi candle has a small body and a lower wick. A Doji candle with a small body and lower and upper wicks indicates indecision and warns the analyst of possible trend reversal.
Periods of consolidation can be very costly for Heikin-Ashi traders. They can however easily be identified. The most obvious feature of consolidation periods is frequent colour flips and multiple weak candle and Doji candles.
To enter a trade following a Heikin-Ashi reversal it is best to avoid simply buying or selling as soon as the reversal candle has printed. This can help you stay out of trouble during periods of consolidation. The strategy we recommend is to wait for the first reversal candle to close. the trader then opens a pending order that is set to execute if price trades through haHigh or haLow.