Mastering The Three Outside Up Candlestick Pattern: A Beginner's Guide

 

Discover the Three Outside Up candlestick pattern, a powerful bullish reversal signal in technical analysis. Learn from this beginner's guide in details how to identify and use it effectively in your trading.

𝗧𝗮𝗯𝗹𝗲 𝗼𝗳 𝗖𝗼𝗻𝘁𝗲𝗻𝘁𝘀:

• 𝗜𝗻𝘁𝗿𝗼𝗱𝘂𝗰𝘁𝗶𝗼𝗻 𝘁𝗼 𝗖𝗮𝗻𝗱𝗹𝗲𝘀𝘁𝗶𝗰𝗸 𝗣𝗮𝘁𝘁𝗲𝗿𝗻
• 𝗪𝗵𝗮𝘁 𝗶𝘀 𝘁𝗵𝗲 𝗧𝗵𝗿𝗲𝗲 𝗢𝘂𝘁𝘀𝗶𝗱𝗲 𝗨𝗽 𝗖𝗮𝗻𝗱𝗹𝗲𝘀𝘁𝗶𝗰𝗸 𝗣𝗮𝘁𝘁𝗲𝗿𝗻 
• 𝗛𝗼𝘄 𝘁𝗼 𝗜𝗱𝗲𝗻𝘁𝗶𝗳𝘆 𝘁𝗵𝗲 𝗧𝗵𝗿𝗲𝗲 𝗢𝘂𝘁𝘀𝗶𝗱𝗲 𝗨𝗽 𝗣𝗮𝘁𝘁𝗲𝗿𝗻 
• 𝗟𝗼𝗴𝗶𝗰 𝗕𝗲𝗵𝗶𝗻𝗱 𝘁𝗵𝗲 𝗧𝗵𝗿𝗲𝗲 𝗢𝘂𝘁𝘀𝗶𝗱𝗲 𝗨𝗽 𝗖𝗮𝗻𝗱𝗹𝗲𝘀𝘁𝗶𝗰𝗸 𝗣𝗮𝘁𝘁𝗲𝗿𝗻
• 𝗦𝗶𝗴𝗻𝗶𝗳𝗶𝗰𝗮𝗻𝗰𝗲 𝗼𝗳 𝘁𝗵𝗲 𝗧𝗵𝗿𝗲𝗲 𝗢𝘂𝘁𝘀𝗶𝗱𝗲 𝗨𝗽 𝗣𝗮𝘁𝘁𝗲𝗿𝗻
• 𝗛𝗼𝘄 𝘁𝗼 𝗧𝗿𝗮𝗱𝗲 𝘁𝗵𝗲 𝗧𝗵𝗿𝗲𝗲 𝗢𝘂𝘁𝘀𝗶𝗱𝗲 𝗨𝗽 𝗖𝗮𝗻𝗱𝗹𝗲𝘀𝘁𝗶𝗰𝗸 𝗣𝗮𝘁𝘁𝗲𝗿𝗻--𝗥𝗲𝗮𝗹 𝗧𝗶𝗺𝗲 𝗘𝘅𝗮𝗺𝗽𝗹𝗲
• 𝗟𝗶𝗺𝗶𝘁𝗮𝘁𝗶𝗼𝗻𝘀 𝗼𝗳 𝘁𝗵𝗲 𝗧𝗵𝗿𝗲𝗲 𝗢𝘂𝘁𝘀𝗶𝗱𝗲 𝗨𝗽 𝗣𝗮𝘁𝘁𝗲𝗿𝗻
• 𝗖𝗼𝗻𝗰𝗹𝘂𝘀𝗶𝗼𝗻
• 𝗙𝗔𝗤𝘀

Introduction to Candlestick Patterns

Candlestick patterns are the graphic presentations of the activities of the market participants and thus reflect their demands and supplies in the prices of securities. Traders and investors use these patterns to anticipate the market trends to take informed decisions. Japanese Candlestick as the name suggests originated from Japan. It was invented by a rice trader Honma Munehisa.

Every candlestick pattern tells something on price action as reflected in a chart. Candlestick patterns, which are formed by one or more candlesticks on a price chart, can help predict future price movements. Among the baskets of patterns, the Three Outside Up is a notable bullish reversal signal, especially valuable for beginners looking to understand trend reversals.

What is the Three Outside Up Candlestick Pattern?

The Three Outside Up pattern is a three-candle formation that forms on the chart indicating three trading sessions. It has three candlesticks and is typically formed in a down trend or we can say the pattern forms at the end of a down trend signaling a potential bullish reversal to upside. It is considered a reliable pattern, offering traders an opportunity to identify a shift from bearish to bullish market sentiment.

This pattern is particularly significant because it not only suggests a potential reversal but also confirms the strength of the new trend. Unlike other patterns, the Three Outside Up includes a confirmation step, making it a more dependable indicator in technical analysis.

This pattern is formed over three trading sessions after a recognizable downtrend, the first two sessions looks like a bullish engulfing pattern. 

The third candle confirms the pattern which is a reliable bullish reversal pattern. 

How to Identify the Three Outside Up Pattern?

Identifying the Three Outside Up candlestick pattern on a chart involves looking for three specific candlesticks which are meant for three trading sessions on daily, weekly, monthly, or in Intraday basis like 15 minutes, 30 minutes, 1 hour, 4 hour time frame. 

First Candlestick: 

The pattern begins with a small bearish candle compared to prior bearish candles indicating that the downtrend is still in play or represents strong selling pressure.

Second Candlestick:

The second candle is large bullish one that opens below the closing price of the first candle and closes above the open price of the same, so it completely engulfs the first candle. This engulfing pattern suggests that buyers are beginning to overpower sellers and indicating a potential reversal to start. 

 

Third Candlestick:

 

 The third candle is also bullish and closes above the second candle's closing price. This candle confirms the completion of the pattern, indicating that the bulls have taken control of the market. 

It is to be noted that the strength of this pattern depends on the second candlestick which is an engulfing candle. The more larger the second engulfing candle, the more stronger the pattern will be. We should find the pattern at a strong support area where buyers are generally active enough to overpower the sellers. The pattern should be formed during or at the end of a prolonged downtrend, or a pullback during an uptrend or during an extended downtrend market. See the below chart formed at support:

Logic Behind the three Outside up Candlestick pattern

 

The Three Outside Up candlestick pattern is a reliable bullish reversal pattern which forms after a recognizable downtrend. This pattern indicates a buying opportunity. After a long downtrend, suddenly a hault comes with the formation of a bullish engulfing candle, signals that the buyers are gaining strength and trying to push the price higher. 

 

Before forming the pattern, what we see that on the first session a small bearish candle is formed which indicates the bears have exhausted. Then on the second session, a big bullish engulfing candle is formed which engulfs the prior bearish (first) candle which confirms the bulls or buyers have stepped into the market after giving a closing above the first candle. This large bullish engulfing candle signals that after a long bearish momentum a bullish wave is prevailing in the market which can shift the sentiment from bearish to upside. Finally, the third session's candle which is also a bullish one confirms further the continuation of the newly started bullish momentum giving a closing above the second bullish engulfing candle. 

 

We generally see that reversal patterns typically form at around support or resistance levels. The Three Outside Up candlestick pattern also tends to form at the strong support levels. A support level is that area of value where the price pauses to fall further. The reason is that there are many buy limit orders at this level. Another group of traders who are watching closely sitting at the sidelines how the price reacts after coming down at this support levels.

 

 When the price comes at this level, all the buy limit orders are executed and the tired sellers are disabled to clear all the buy orders, so the price moves higher with the participation of the sidelines players. So after the engulfing candle, the next candle is a bullish one and closes above the closing price of the prior engulfing candle and creates an opportunity to go long in the stock. 

Significance of the Three outside Up Pattern

The Three Outside Up pattern is significant because it not only hints at a potential reversal but also provides confirmation, reducing the chances of false signals. Here’s why this pattern is important:

Reversal Confirmation: The pattern provides a strong indication that a downtrend may be coming to an end and that a new uptrend could be beginning.

Market Sentiment: It reflects a clear shift in market sentiment, from bearish to bullish, giving traders an opportunity to consider entering long in the security. 

Reliability: The pattern is considered more reliable than some other reversal patterns due to the confirmation provided by the third candle which is also a bullish candle and closes above the second bullish engulfing candle's closing price. 

How to trade Three Outside up Candlestick Pattern Real-Time example

 

Three outside up candlestick pattern can be used in different types of trading, such as intraday trading, swing trading, long-term trading etc. But before that you have to understand how to use it in different market conditions, how to combine this set up with other tools and indicators, your time frames. Let's have a look for a real time example. 

See the above chart of Divis Laboratories in daily time frame. On 27th March, 2024,it made a small bearish candle after a long duration of downtrend indicating the continuation of the existing downtrend. The range of the candle was Rs. 3350 to Rs. 3400.This level of range was its previous support level. Please note that always consider a level of support not as a line but as an area of support. On 28th March, 2024,a big bullish engulfing candle was formed on the second day which engulfed the first day's bearish candle completely which established the buyers strength over the sellers. 

 

On the third day 1st April, 2024,another bullish candle was formed above the close price of the second bullish engulfing candle which confirmed the completion of the Three Outside Up candlestick pattern on the price chart. 

 

Looking this set up on the chart one can initiate long trade above the close price of the third candle (around Rs. 3400) keeping a stop-loss below the third candle low or as per his risk management. See what a stunning move the stock gave upto Rs. 3800 at first upswing and then upto Rs.4000 plus. 

 

Profit target should be 1:3 or the immediate resistance which should be minimum 1:2 or more according to individuals trade management. Or one can trail stop-loss to maximize his profits.

Limitations of the Three Outside Up Pattern

There is no such strategy which is foolproof. Every strategy has advantages as well as disadvantages also. While the Three Outside Up pattern is a powerful tool, it has some limitations:

 

False Signals: Like any technical pattern, it can sometimes give false signals, especially in volatile markets where prices can swing unpredictably. So you have to keep a strict stop-loss to be safe from heavy capital losses. 

Not Always Reliable: In sideways or ranging markets, the Three Outside Up pattern may not work as effectively since the market lacks a clear direction.

Need for Confirmation: Even though the pattern includes a confirmation step, it’s advisable to use other technical indicators such as RSI, Moving Average, Bollinger band etc. To strengthen the signal before making a trade.

Conclusion

The Three Outside Up candlestick pattern is a valuable addition to a trader's toolkit, offering a reliable signal for a bullish reversal in a downtrend. For beginners, mastering this pattern can be a significant step toward understanding market dynamics and making informed trading decisions. However, like all technical analysis tools, it should be used in conjunction with other indicators and risk management strategies to maximize its effectiveness.

Analyzing this pattern in different market conditions and different time frames with consistent practice will enhance your skill to capitalize the actual benefits of the set up. Keep practicing, keep learning.

FAQs

1. What makes the Three Outside Up pattern different from other bullish reversal patterns?

 
The Three Outside Up pattern is unique because it includes a confirmation step with the third candlestick, making it more reliable than some other patterns that only indicate a potential reversal.

 

2. Can the Three Outside Up pattern be used in all market conditions?

No, the pattern is most effective in trending markets and may not work well in sideways or ranging markets.

Disclaimer: The information provided on MoneyWiseMind is for educational and informational purposes only. It is not intended to be financial advice, and you should not rely on it as such. Before making any financial decisions, you should consult a licensed financial advisor.