Among the various candlestick patterns used in technical analysis, patterns that involve three or more candlesticks are usually held in high regard by traders. The three outside down candlestick pattern, for instance, occurs quite frequently on candlestick charts and is used by traders as a reliable trend reversal indicator to time their trades. So, here’s everything that you need to know about the three outside down pattern.      

The three outside down candlestick pattern – an overview 

The three outside down pattern generally occurs during a bullish trend and involves three consecutive candlesticks. The movement of these candles invariably indicate whether a trend reversal is on the cards or not. The pattern is characterised by a single bullish candle, followed by two bearish candles. Accurate identification of this pattern is essential for executing counter-trend trading strategies. 

The three outside down candlestick pattern – an example

Understanding this technical indicator is quite easy.

Take a minute to examine this figure. As you can see, the price is trending hard in the upward direction, indicating that the bulls are in control of the market. In keeping with the trend, the first candle in the pattern closes positively. However, the body of the candle remains small, which can be construed as an indication of a slow down in the buying interest. The second candle opens ‘gap up’ signifying the bulls’ effort to push the prices further upward. 

At this point, the buying interest completely loses steam and the bears enter the market. This sudden influx of sellers in the market turns the tables, with the price plummeting downward. The bears’ grip on the second session is so intense that the closing price of the second candle ends up being lower than the opening price of the bullish candle. Due to such high amounts of selling pressure, the second candle ends up completely ‘engulfing’ the first candle. Continuing on with the onslaught, the bears pick up the pace in the third session, with the final candle in the pattern also ending up negative. 

Here’s a key point that you should note. For this pattern to be considered successful, it is highly essential for the third bearish candle to close below the second bearish engulfing candle. This acts as a sort of a confirmation of the bearish trend reversal.    

How to use the three outside down pattern?

Here are some key points that you should note before entering into a trade based on the three outside down candlestick pattern

– The first step is to look out for a hard bullish trend on the charts.

– Upon identification of the bullish trend, wait for a small bullish candle to form. This would be the first candle in the three outside down pattern.   

– Once you’ve spotted the small bullish candle, wait for a long bearish candle to form on the charts. This second candle should ideally be long and engulf the first bullish candle. Since this phase is extremely important, it is advisable to consider entering into a trade only if the second candle in the pattern satisfies these conditions. 

– Unlike many other technical indicators, the three outside down pattern doesn’t require you to wait for a trend confirmation. This is due to the fact that the third candle in a three outside down candlestick pattern is in itself a confirmation candle.   

– So, for the pattern and the trend reversal to be considered successful, the third candle also needs to turn out to be bearish. Once this candle confirms the trend reversal, you are free to deploy your trading strategy. 

Conclusion

The three outside down pattern occurs quite frequently on the charts. Here’s a pointer that you can use when dealing with this technical indicator. The second engulfing bearish candle essentially acts as an indicator of the strength of the reversal. The longer the second candle is, the stronger the trend reversal is likely to be. Also, as with any other technical indicator, it is always a good idea to exit your position early before the next reversal to avoid getting stuck in a trade.