Three Outside Down

Bearish Reversal Pattern
← Back

What is Three Outside Down Pattern?

Three Outside Down is a bearish reversal candlestick pattern that appears after an uptrend. It consists of a bearish engulfing pattern followed by a confirmation candle, indicating a strong shift in momentum from buyers to sellers. It signals that bullish strength is weakening and a potential downtrend may begin, especially when supported by higher volume or resistance levels.

Structure of the Pattern

  • The pattern consists of three candles:
  • Candle 1: A bullish candle indicating continuation of the uptrend.
  • Candle 2: A strong bearish candle that completely engulfs the body of the first candle.
  • Candle 3: A bearish confirmation candle that closes lower than the second candle.
  • The second candle forms a bearish engulfing pattern.
Three Outside Down Structure
Pattern Structure

Key Conditions for Formation

  • The pattern must occur after a clear uptrend.
  • The second candle must engulf the first candle.
  • The third candle must confirm the downward move.
  • Strong bearish momentum should be present.
  • The pattern should indicate reversal of trend.

Detailed Explanation

The Three Outside Down pattern is a stronger version of the bearish engulfing pattern. The first candle reflects bullish sentiment, but the second candle completely reverses that sentiment by engulfing it.

The third candle provides confirmation that sellers have taken control and the trend is reversing downward.

  • Second candle shows strong selling pressure.
  • Engulfing pattern signals reversal.
  • Third candle confirms bearish continuation.
  • Higher reliability than simple engulfing.
Three Outside Down Chart Example
Chart Example

Market Psychology

The psychology behind the Three Outside Down pattern reflects a strong shift from bullish to bearish sentiment.

  • Buyers dominate initially (first candle).
  • Sellers aggressively take control (second candle).
  • Market confidence shifts to bearish side.
  • Third candle confirms sustained selling pressure.

Trade Interpretation

  • Entry: After the third candle closes.
  • Confirmation: Strong bearish third candle.
  • Stop Loss: Above the high of the pattern.
  • Target: Based on support levels or trend continuation.

Timeframe Relevance (Algo Context)

In a 5-minute timeframe:

  • Pattern forms over 3 candles (15 minutes).
  • Becomes active after the third candle.
  • Useful for short-term reversal signals.
  • Effective in trending markets.

Role of Volume

Volume increases reliability of the pattern:

  • High volume during second candle confirms strong selling.
  • Increasing volume supports reversal.
  • Low volume reduces confidence in signal.

Using Indicators for Confirmation

  • RSI: Look for overbought conditions.
  • MACD: Bearish crossover confirms signal.
  • Resistance Levels: Pattern near resistance increases strength.
  • Volume: Rising volume strengthens confirmation.

When to Avoid

  • When there is no clear uptrend.
  • When the engulfing is weak or incomplete.
  • In sideways markets.
  • When volume is low.

Precautions

  • Always wait for third candle confirmation.
  • Avoid trading without trend validation.
  • Use stop loss to manage risk.
  • Combine with indicators for better accuracy.

Related Patterns

  • Bearish Engulfing
  • Three Inside Down
  • Evening Star
  • Shooting Star

Practical Insights

In algorithm-based detection systems:

  • Detect bearish engulfing pattern.
  • Confirm third candle closes lower.
  • Validate prior uptrend.
  • Use volume and trend filters for accuracy.

Example Scenario

A stock has been rising steadily and forms a strong bullish candle. The next session opens higher but selling pressure increases, resulting in a bearish candle that engulfs the previous one. The following candle continues to fall and closes lower, confirming that sellers have taken control and the uptrend is likely reversing into a downtrend.

SUMMARY

  • Pattern Type: Bearish Reversal
  • Candles Required: 3
  • Key Signal: Bearish engulfing + confirmation
  • Best Use Case: End of uptrend
  • Confirmation Needed: Yes
  • Reliability: High