Last Updated on 21 September, 2020 by Samuelsson
Dojis are a subcategory of candlestick patterns that contains four different patterns. Those are the neutral doji, the graveyard doji, the long-legged doji, and the four price doji.
In this article we’re going to cover the neutral doji
A neutral doji is a one candle reversal pattern that forms after a bullish or bearish trend, signaling its reversion. As such, a neutral doji can be either bearish or bullish, depending on the direction of the preceding trend.
In this article, you’ll learn how to interpret the neutral doji pattern, its meaning, and how you could improve the pattern.
Let’s get started!
How to Identify a Neutral Doji
The neutral doji pattern has to meet the following conditions:
- The market opens and closes at the same price, or roughly at the same price.
- It has an upper and lower wick, which are both around the same length.
Now, a neutral doji is quite similar to a spinning top, but in traditional technical analysis, they’re not the same.
In short, the difference between a spinning top and neutral doji, is that the latter doesn’t have a body, while the spinning top does.
Here you may read more about the spinning top candlestick pattern.
What Does the Neutral Doji Mean?
The neutral doji is a reversal pattern that’s preceded by a bullish or bearish trend, signaling that the current trend is about to change direction. In other words, a doji could be both a bullish and bearish reversal pattern, depending on if it’s preceded by a bullish or bearish trend.
Dojis are also considered so-called “indecision” patterns, meaning that they show that the market doesn’t know which way to go.
What Does a Neutral Doji Tell Us About the Market?
As candlestick patterns are representations of market price, every pattern has a unique story to tell.
While it’s hard to ascribe a certain chain of events to every pattern, it’s certainly a good exercise to try and interpret what the market has been up to.
So let’s try and do that!
When the market comes from a bullish or bearish trend, market sentiment is in line with the current trend direction. In the case of a bullish market, buying pressure is dominating, and in the case of a bearish market, selling pressure dominates.
However, as the next bar opens, the market has lost it’s overall conviction and moves up and down, seemingly planless. Not having shown any bullish or bearish behavior, it closes at the same price as it opened.
The loss of momentum and conviction indicates that the current market trend probably has come to an end, and market players prepare for the coming reversal of the trend, further fuelling the reversal.
Examples of Neutral Doji Candle
Here follow two real-world examples:
Neutral Doji VS Other Doji Candlesticks
As said, there are a couple of other doji candlestick patterns, and as such, it might be interesting to know how they differ. All in all, they’re quite similar, but with some minor difference both in appearance and meaning.
Neutral Doji VS Gravestone Doji
In contrast to the neutral doji, a gravestone doji only has a long upper wick, and no lower wick.
As to differences in meaning, the gravestone doji is only considered a bearish reversal pattern, while a neutral doji could be both bearish and bullish.
Here you may read more about the gravestone doji
Neutral Doji VS Dragonfly Doji
The dragonfly doji could be said to be an inverted gravestone doji. It has a long lower wick and no upper wick.
A dragonfly doji, just like the neutral doji, is seen both as a bullish and bearish reversal pattern.
Here you may read more about the dragonfly doji
Neutral Doji VS Long Legged Doji
A long-legged doji is very similar to the neutral doji, but has one major difference, which is the size of the pattern. As the name implies, a long-legged doji is much longer than a neutral doji.
Otherwise, they’re the same, both in meaning and appearance.
Here is our article on the long-legged doji
Ways to Improve a Neutral Doji
When it comes to single candlestick patterns, it’s not recommended that you trade them on their own. Usually, a filter or additional condition is needed to improve the performance.
Now, in this section of the article, we thought that we were going to show some of the most common filters we use to filter out bad trades in our strategies. Just keep in mind that you need to apply them to the right timeframe and market for it to work. We recommend that you use backtesting to see what works and not!
Having said this, let’s uncover three types of filters we use a lot ourselves!
Sometimes a market performs differently depending on things like day of the week, day of the month, or other seasonal patterns. For example, the price of heating oil tends to rice as the winter approaches, and fall when the spring arrives.
If you take these seasonal tendencies into account, you could significantly improve the performance of a pattern like the neutral doji. For example, we have strategies that don’t trade on certain days of the week, because we already know that those days mean a weaker edge for our strategy! We also have trading strategies that only go long on odd days, and short on even days, just to name another example. The possibilities are endless, and you could come up with an endless number of variations!
However, if you’re just starting out, these are the most simple, yet powerful things we believe you should look into!
- Day of week
- Day of month
- Time of day
Now, when you look at the impact that a certain day or period has on the performance, we recommend that you don’t just choose the best performing period. Doing so easily leads to curve fitting, which means that the strategy doesn’t work in live trading. Instead, you want to approach seasonality in a way so that you just remove the worst periods for your strategy.
However, we do have strategies that only trade on certain days of the week, and that works fine too. Still, in general, this is the approach we have to building trading strategies.
2. The Volatility of the Market
Another great way to filter out bad trades, is by watching the volatility of the market. The behavior of a market often is tightly knit to the levels of volatility. As such a pattern might work better if there is higher or lower volatility. Again, which works best depends on the market and timeframe.
One good indicator that you may use to measure volatility is the average true range indicator. While this indicator works well, we actually have another one we like even more, which is the ADX indicator. We’ll talk about that under the coming section on trading strategies!
3. The Volume of the Market
While a price chart gives a lot of information about how a market has moved, the volume provides more in-depth information regarding the conviction of the market. Using volume, we know the number of traded stocks/contracts behind the move, and thus get a better sense of the significance of a market movement.
Knowing, this, you might want to only take a trade if there is high volume, to ensure that enough people stood behind the move. This could defined as the volume being higher than the volume of the previous bar, only to mention one example!
However, sometimes you will find that some patterns work better with low volume. Again, it depends on the market and timeframe you test on!
Neutral Doji Strategies
In this part of the article, we wanted to share a couple of trading strategies with you.
Please keep in mind that the strategies mentioned aren’t meant for live trading, but should serve as inspiration. In fact, the strategy examples shown here, to a large extent, show how we would go about when creating trading strategies on our own!
In case you want to read more about the process of building trading strategies, then we recommend that you have a look at our complete guide to building a trading strategy.
1.Neutral Doji and Bollinger bands
As said, neutral dojis are traditionally regarded as both bearish and bullish reversal signals, depending on if they’re preceded by a downtrend or uptrend.
In this strategy example, we’re going to use the Bollinger bands to determine whether we should short or go long on a neutral doji.
For those who don’t know, bollinger bands is a trading indicator that consists of three lines, which are the following:
- A middle band that’s a moving average
- An upper band that’s drawn two standard deviations above the middle band.
- A lower band that’s drawn two standard deviations below the middle band.
We’ll only take long trades below the lower Bollinger band, and short trades above the upper band, which ensures that the market is overbought once we go short, and oversold once we go long.
So, here are the rules:
- We go long if we have a doji, and the close is lower than the lower Bollinger band
- We go short if we have a doji and the close is higher than the upper Bollinger band
Then we’ll get out of both long and short trades when the close crosses the middle Bollinger band.
If you want to learn more about Bollinger bands, you may have a look at our guide to the bollinger bands trading indicator.
2. Neutral Doji and ADX
As we mentioned before we were going to use the ADX in one strategy example, and here it is!
ADX is a trading indicator that measures trend strength. Readings above 20 are considered signs of a strong trend, and vice versa.
You may read more about the ADX in our guide to the ADX indicator
In this strategy example, we’ll only go long on a neutral doji if the ADX is above 20. To ensure that the market has gone down, we also add in a condition that states that the market must be lower today than it was five days ago.
So, here are the rules for this particular strategy:
Go long if:
- There is a neutral doji
- ADX is above 20
- The market is lower today than five days ago
To exit the trade, we’ll use a simple time exit, and get out after 5 bars.
The neutral doji is a candlestick patter that belongs to a family of 4 different doji patterns. It signals a bearish or bullish trend reversal, depending on whether it was preceded by a bullish or bearish market move.
Before we end this article, we want to urge you to TEST EVERYTHING ON HISTORICAL DATA BEFORE YOU GO LIVE. Most things don’t work well at all, meaning that you will lose money trading it. And the only way to know if something is worth your time, is through backtesting.