Inside Bar vs Outside Bar – What Traders Get Wrong

In the world of trading, understanding candlestick patterns is crucial for making informed decisions. Two common patterns that traders often encounter are the inside bar and the outside bar. While these terms may seem straightforward, many traders misinterpret their significance and application. In this article, we will delve into the differences between inside bars and outside bars, clarify common misconceptions, and offer practical insights for trading in the forex market.

What is an Inside Bar?

An inside bar is a candlestick pattern that occurs when a candle is completely engulfed by the previous candle. This pattern indicates a period of consolidation and indecision in the market.

Characteristics of Inside Bars

• The high of the inside bar is lower than the high of the previous bar.
• The low of the inside bar is higher than the low of the previous bar.
• It generally appears after a strong price movement, signalling potential continuation or reversal.

Traders often look for inside bars as signals to enter trades, as they can indicate a breakout in the direction of the previous trend.

What is an Outside Bar?

In contrast, an outside bar is a candlestick that fully engulfs the previous candle. This pattern reflects a stronger market sentiment, indicating potential changes in momentum.

Characteristics of Outside Bars

• The high of the outside bar is higher than the high of the previous bar.
• The low of the outside bar is lower than the low of the previous bar.
• It can signal a reversal or continuation of the trend, depending on its position within the price action.

Traders often interpret outside bars as a clear signal of market strength or weakness, making them a crucial component of trading strategies.

Common Misconceptions

Despite their significance, many traders misunderstand the implications of inside and outside bars. Here are some common misconceptions:

1. Inside Bars Always Signal Continuation

While inside bars often suggest a continuation of the previous trend, this is not always the case. They can also precede reversals, especially in volatile markets. Traders should consider additional indicators and market context before making decisions based solely on an inside bar.

2. Outside Bars Are Always Reversal Signals

Many traders assume that an outside bar automatically indicates a reversal. However, outside bars can also indicate a continuation of the current trend, especially if they appear after a significant price movement. Context is key when interpreting these patterns.

3. The Size of the Bars Matters

While the size of the bars can provide insight into market volatility, it is essential not to rely solely on size when analysing inside and outside bars. A smaller inside bar could lead to a powerful breakout, while a large outside bar could be a false signal. Always consider the overall market context.

How to Trade Inside and Outside Bars

To effectively trade using inside and outside bars, follow these practical tips:

• Always analyse the trend: Determine whether the market is bullish or bearish before acting on inside or outside bars.
• Use additional indicators: Combine candlestick patterns with other technical indicators, such as moving averages or RSI, to confirm signals.
• Practice risk management: Set stop-loss orders and manage position sizes to protect against potential losses.
• Consider market conditions: Be aware of economic events and news releases that could impact price action.

Conclusion

Understanding the differences between inside bars and outside bars is essential for any trader looking to navigate the forex market effectively. By recognising the characteristics and potential implications of these patterns, traders can make more informed decisions. Avoiding common misconceptions and employing sound trading strategies will enhance your ability to analyse price action and improve your trading outcomes.

Takeaway

Inside bars and outside bars are powerful tools in a trader’s arsenal. However, it is crucial to interpret them within the broader context of market conditions and to supplement them with additional analysis. By doing so, traders can harness their potential more effectively and avoid common pitfalls.