An inverted hammer or shooting star candlestick is formed when the price rises significantly higher after the open, but relinquishes most or all of its gains to close well off its intra-day high and with bearishness. As its name implies (for an inverted hammer), it looks like an upside-down hammer. Preferably, the length of the upper shadow is three times that of the body. In some cases, there is a lower shadow that accompanies the formation.
Distinguishing between an inverted hammer and a shooting star depends on the preceding price action. Inverted hammers form after a decline, or down-trend. An inverted hammer indicates that a reversal could be due. The candlestick formation represents that the bulls were able to drive the price higher intra-day, but could not hold on to the gains by day’s end as there remains selling pressure left in the bears. However, it was an encouraging sign for the bulls.
On the other hand, shooting stars form after an advance, or up-trend. A shooting star indicates that a reversal could be due. The candlestick formation represents that the bulls were able to drive the price higher intrad-day, but could not hold on to the gains by day’s end as selling pressure began to surface. This should signal to the bulls that a top may be near.
In the above example, the price was in a down-trend when a couple of inverted hammers formed. Buying pressure had resurfaced and the following day, a bullish long white candlestick formed and the price had reversed course and confirmed the previous day’s inverted hammer formation.