Renko chart

What Is Renko Chart?

A Renko chart is a type of financial chart used in technical analysis that displays price movements in a distinctive way, focusing solely on price changes that meet a predetermined minimum threshold, rather than plotting price against uniform time intervals. The word "Renko" is derived from "renga," the Japanese word for "brick," which aptly describes the chart's appearance as a series of bricks. Each new brick on a Renko chart signifies a specific price movement, either upward or downward, filtering out minor price fluctuations and "noise" that can obscure underlying trends in traditional candlestick charts or bar charts.¹⁴¹, ¹⁴², ¹⁴³, ¹⁴⁴, ¹⁴⁵ This makes Renko charts particularly useful for identifying clear trends, support and resistance levels, and potential reversals.¹³⁷, ¹³⁸, ¹³⁹, ¹⁴⁰

History and Origin

Renko charts have a rich history, believed to have originated in Japan during the Edo period (1603-1868).¹³⁴, ¹³⁵, ¹³⁶ During this time, they were utilized by Japanese rice traders to track the price movements of rice futures.¹³¹, ¹³², ¹³³ The unique methodology of Renko charts, which prioritizes significant price changes over time, was developed to eliminate market "noise" and provide a clearer picture of prevailing price trends.¹²⁸, ¹²⁹, ¹³⁰ While the precise origins are somewhat unclear, the concept of Renko charts, rooted in the Japanese word for brick, has evolved over centuries.¹²⁶, ¹²⁷ Modern charting platforms have since made Renko charts accessible for analyzing various financial instruments, including stocks, currencies, and commodities.¹²³, ¹²⁴, ¹²⁵

Key Takeaways

• Renko charts filter out minor price fluctuations, providing a cleaner view of market trends.¹²⁰, ¹²¹, ¹²²
• They are constructed using "bricks," where each brick represents a fixed price movement, regardless of time.¹¹⁷, ¹¹⁸, ¹¹⁹
• Renko charts are effective for identifying clear trends, support and resistance levels, and potential trend reversals.¹¹⁴, ¹¹⁵, ¹¹⁶
• The chosen "brick size" is a critical parameter that dictates the sensitivity of the Renko chart to price changes.¹¹², ¹¹³
• While useful for trend analysis, Renko charts do not provide information on time or volume, which can be a limitation for some traders.¹⁰⁹, ¹¹⁰, ¹¹¹

Formula and Calculation

Renko charts do not have a mathematical formula in the traditional sense like some technical indicators. Instead, their construction is based on a user-defined "brick size" (also known as "box size" or "reversal amount"). This brick size dictates the minimum price movement required to draw a new brick.¹⁰⁷, ¹⁰⁸

There are typically two main methods for setting the brick size:

1. Fixed Value: The simplest method involves setting a fixed monetary value for each brick, such as $1, $0.50, or 10 pips. A new brick is only drawn when the price moves by this specified amount.¹⁰⁴, ¹⁰⁵, ¹⁰⁶
2. Average True Range (ATR): This method uses the Average True Range (ATR) indicator to determine the brick size dynamically. ATR is a measure of market volatility, and using it allows the brick size to adapt to changing market conditions.¹⁰¹, ¹⁰², ¹⁰³ For example, if the ATR is high, indicating increased volatility, the brick size will be larger.¹⁰⁰

To illustrate the brick formation, consider a fixed brick size. If the price of an asset moves up by the set brick size, a new upward brick is drawn. If it moves down by the set brick size, a new downward brick is drawn. Crucially, a new brick in the opposite direction only forms after the price has moved twice the brick size in that direction from the close of the previous brick.⁹⁹ Bricks are always drawn at 45-degree angles from the previous brick; they are never drawn side-by-side.⁹⁷, ⁹⁸

Interpreting the Renko Chart

Interpreting a Renko chart primarily revolves around recognizing trends and potential reversals through the color and direction of its bricks. The core principle is that a series of bricks moving in the same direction indicates a strong trend. For example, a succession of green (or hollow) bricks signifies an uptrend, while a series of red (or filled) bricks indicates a downtrend.⁹⁴, ⁹⁵, ⁹⁶

The absence of a new brick means that the price movement has not met the predefined brick size, effectively filtering out minor fluctuations.⁹³ This smoothing effect makes it easier to identify significant price shifts and the overall direction of the market.⁹¹, ⁹² When the color of the bricks changes, it signals a potential trend reversal.⁸⁸, ⁸⁹, ⁹⁰ For instance, if an uptrend composed of green bricks is followed by a red brick, it could suggest that the upward momentum is weakening and a reversal to a downtrend may be underway.⁸⁷ Traders also use Renko charts to identify support and resistance levels more clearly, as these levels often become apparent where price movements stall and new bricks fail to form until a significant breakout occurs.⁸⁴, ⁸⁵, ⁸⁶

Hypothetical Example

Imagine an investor, Sarah, is analyzing the price of Stock XYZ using a Renko chart with a fixed brick size of $2.

1. Starting Point: Stock XYZ is trading at $50. No brick is currently drawn.
2. Initial Movement: The price rises to $52. A new green (up) brick is drawn, extending from $50 to $52.
3. Continued Uptrend: The price then moves to $54. Another green brick is drawn, extending from $52 to $54.
4. Minor Fluctuation: The price drops to $53.50. No new brick is formed because the price has not moved down by the $2 brick size from the previous brick's close ($54). The chart remains unchanged.
5. Reversal Condition: The price subsequently falls to $50. A new red (down) brick is drawn. This occurs because the price moved down by $4 (twice the $2 brick size) from the previous high of $54. The brick would extend from $54 down to $52, and then a new red brick would be drawn from $52 to $50, indicating the strong downward move. Note that two red bricks would be drawn consecutively if the price moved down by $4 or more.
6. Sustained Downtrend: The price drops further to $48. Another red brick is drawn from $50 to $48.

In this example, the Renko chart helps Sarah clearly visualize the significant trends. The minor fluctuation to $53.50 is filtered out, preventing her from reacting to insignificant price movements and allowing her to focus on the more substantial shifts from $50 to $54 (uptrend) and then the reversal and subsequent move to $48 (downtrend). This simplifies her market analysis by reducing "noise."

Practical Applications

Renko charts offer several practical applications for traders and analysts in financial markets, primarily due to their ability to filter out market noise and highlight significant price trends.⁸², ⁸³

• Trend Identification: One of the primary uses of Renko charts is to clearly identify and confirm trends. A continuous series of bricks in the same direction (e.g., all green for an uptrend or all red for a downtrend) provides a strong visual signal of the prevailing market trend.⁸⁰, ⁸¹ This can help traders stay in a trend for longer periods.⁷⁹
• Support and Resistance Levels: Renko charts can make it easier to spot key support and resistance levels because they smooth out minor price fluctuations. These levels appear as horizontal areas where the price repeatedly reverses direction, leading to a change in brick color.⁷⁶, ⁷⁷, ⁷⁸
• Breakout Strategies: By removing noise, Renko charts can enhance breakout strategies. A clear shift from a sideways consolidation phase, marked by alternating bricks, to a continuous series of bricks in one direction indicates a significant price breakout.⁷⁴, ⁷⁵
• Volatility Measurement: While not directly providing volatility metrics, the formation speed of Renko bricks can offer insights into market volatility. During periods of higher volatility, more bricks may form in a shorter time, indicating significant price movements.⁷², ⁷³
• Algorithmic Trading: Academic research has explored the suitability of Renko charts for algorithmic trading, suggesting their potential in training machine learning models for predicting asset price movements due to their noise-filtered nature.⁷¹

For instance, the Federal Reserve Bank of St. Louis's FRED database, a widely recognized source for economic and financial data, provides extensive historical data for key market indices like the S&P 500.⁶⁶, ⁶⁷, ⁶⁸, ⁶⁹, ⁷⁰ While FRED itself does not display Renko charts, traders can apply Renko charting techniques to this historical price data to analyze past trends and patterns without the distraction of time-based fluctuations, which is particularly beneficial for strategies like swing trading.⁶⁵

Limitations and Criticisms

Despite their advantages in simplifying price action, Renko charts have several limitations and criticisms that traders should consider.

• Lack of Time Dimension: One of the most significant drawbacks is that Renko charts completely disregard the time element.⁶³, ⁶⁴ This means that a single Renko brick could represent a few minutes, several hours, or even days, depending on how long it takes for the price to move the specified brick size.⁶¹, ⁶² Consequently, traders lose valuable insights into time-based market dynamics, such as trading session activity, volatility during specific periods, or the speed of price movements.⁵⁹, ⁶⁰
• Incomplete Price Information: Renko charts typically use only closing prices to construct bricks, ignoring the high and low prices within each period.⁵⁶, ⁵⁷, ⁵⁸ This can lead to a loss of important price information, as significant fluctuations or "wicks" that occur between the open and close of a traditional candle are not captured.⁵³, ⁵⁴, ⁵⁵
• Delayed Signals: While Renko charts excel at filtering noise, their construction method can lead to delayed signals, especially during periods of consolidation or when a trend is beginning to reverse.⁵¹, ⁵² A substantial price move might occur before a new brick is formed, potentially causing traders to enter or exit positions later than they would with time-based charts.⁴⁹, ⁵⁰
• Difficulty in Identifying Trend Reversals: Although they highlight trend changes, Renko charts can sometimes provide delayed or even false signals for trend reversals, particularly in choppy markets.⁴⁷, ⁴⁸ The fixed brick size might require a significant opposite price movement before a reversal brick is printed, which could result in "whipsaw" effects.⁴⁶
• Limited Indicator Compatibility: Many traditional technical indicators are designed to work with time-based charts. Applying these indicators to Renko charts can sometimes produce inaccurate or misleading signals, as their calculations rely on the time dimension that Renko charts exclude.⁴⁵

These limitations mean that while Renko charts are effective for trend following, they may not be suitable for all trading strategies, particularly those that rely heavily on precise timing or detailed intraday price action.⁴³, ⁴⁴ Some academic perspectives suggest that while Renko charts offer a clean view for algorithmic trading by filtering noise, the lack of time information can pose challenges for continuous trading.⁴²

Renko Chart vs. Candlestick Chart

The primary distinction between a Renko chart and a candlestick chart lies in how they represent price movements and their treatment of time.

The Renko chart prioritizes simplicity and trend identification by removing the "noise" of smaller price fluctuations.²⁵, ²⁶ This can be beneficial for traders who want to focus on the overall direction of the market without being distracted by minor intraday movements.²³, ²⁴ In contrast, a candlestick chart provides a more comprehensive view of price action within a specific time frame, including volatility and intraday highs and lows, which can be crucial for strategies that rely on precise entry and exit points or candlestick patterns.²² The choice between the two often depends on a trader's analytical preference and trading strategy.

FAQs

1. What is the main advantage of using a Renko chart?

The main advantage of a Renko chart is its ability to filter out minor price fluctuations, often referred to as "noise," providing a much clearer and smoother representation of underlying price trends.¹⁹, ²⁰, ²¹ This makes it easier to identify the direction of a trend and potential reversals.¹⁶, ¹⁷, ¹⁸

2. How do Renko charts handle time?

Renko charts are "time-independent" charts, meaning they do not plot price movements against fixed time intervals like traditional charts.¹⁴, ¹⁵ Instead, a new brick is only formed when the price moves by a predefined amount, regardless of how long that movement takes.¹², ¹³ This can mean one brick takes minutes to form, while another takes days.¹¹

3. What is "brick size" in a Renko chart?

The "brick size" (or "box size") is a crucial setting in a Renko chart that determines the minimum price movement required to generate a new brick.¹⁰ For example, if the brick size is set to $1, a new brick will only appear when the price moves up or down by at least $1.⁹ This size can be fixed or dynamically adjusted using indicators like the Average True Range (ATR).⁷, ⁸

4. Are Renko charts suitable for all trading styles?

Renko charts are particularly well-suited for trend-following strategies because they simplify trend identification.⁵, ⁶ However, they may not be ideal for trading styles that rely heavily on precise entry/exit timing, volume analysis, or detailed intraday price fluctuations, as Renko charts omit this information.³, ⁴ Many traders combine Renko charts with other technical analysis tools for more comprehensive insights.¹, ²