This is an attempt to go through the noise and tell you a very simple yet effective trading strategy using inside day candles. You can easily simplify your trading approach by knowing how to spot and capitalize on such candles, hence enhancing the decision-making process.
We’re going to explore inside day candles, explain how it works in the expansion-contracting dynamic of a market, and how this strategy could be effectively deployed. Let’s dive into it!
Inside Day Candles
Inside day candles are a big component of price action trading. This occurs when the range of a price candle is fully held within the previous candle’s range. This pattern shows a time of market contraction and most often it precedes a breakout or strong price movement.
- An inside day candle has its high and low that occur within the high and low of the previous candle. If, for example, yesterday’s high was 100 and the low was 90, then an inside day candle would have a high below 100 and a low above 90.
The inside day candle reflects a signal of indecision in the market. There is not much clarity as to where the market is headed and therefore the prices tend to swing up and down momentarily. Such can be used to understand some of the potential movements at a later date.
Concept of Market Expansion and Contraction
One of the most fundamental theories underlying the various trading strategies is the theory of expansion and contraction cycles of the market.
- Market Dynamics: While most people believe markets are always changing, they are really dynamic systems that repeat patterns over time. That is to say, price action from decades ago can look very similar to charts today. Such insight will help traders develop effective strategies built upon the repeating cycles of markets.
- Expansion and Contraction: Typically after a period of contraction, which is an indication appearing in inside day candles, the market often enters into the expansionary period again when it moves considerably in one specific direction. Hence, this information can also make one ready for potential breakout opportunities during the contraction period.
Use of Inside Day Candles for Trading
How to use inside day candles for profitable trading, actually as follows:
- Select the Right Time Frame: While the inside day candles can actually occur on any time frame, they are most reliable on higher time frames, like on the daily or weekly charts. More broadly speaking, false signals on the lower time frames will prevail due to excessive noise.
- Look for Contraction: Search for inside day candles within a greater trend. Once the market is starting to reflect signs of contraction (inside day candles), then find out which direction the trend is moving. If it’s bullish, you’ll have an inside day candle and likely a breakout to the upside. If the trend is bearish, you will anticipate a breakdown to the downside.
- Wait for the Breakout: Once an inside day candle has been established, wait for the price to breakout above the high of the inside candle or down into the low. That breakout would often lead to the start of a new price movement.
- You’d set entry and exit points—after identifying a breakout, you would go in slightly above the high for bullish sets or below the low of the inside candle for a bearish set. As such, you would set up stop-loss orders just outside the opposite side of that candle.
- Confirm with Additional Indicators: In addition to your trading strategy, you could use other indicators or price action signals to confirm if a breakout is about to occur. For example, look at the volume to know whether the move is strong enough or even other technical indicators like moving averages.
Practical Examples of Inside Day Candles
To better illustrate how effective this strategy is, here are a couple of examples.
- Bearish Setup: Crude Oil Market: In a recent crude oil market analysis, there was an inside day candle that emerged after the market expanded. The inside candle formed fully within the range of the previous candle. Once it broke below the inside candle, the price dropped significantly. That was a fantastic shorting opportunity. Here is how one may learn to profit from inside day candles.
- Bullish Setup: GBP/USD: Another example is when the GBP/USD currency pair presented a bullish inside day candle after a downtrend. The body of the candle was in the range of the previous candle, meaning that it was in the contraction phase. When the price broke above the high of the inside candle, the traders could capture the bullish move.
Importance of Practice and Experience
Trimming candles inside a day looks quite promising, but never forget that no one goes guaranteed in the market. Such inside day candles are certainly not going to bring one profit every time. A trader should practice this more with experience and get to learn market dynamics over time.
- Continuous learning: The more experience you get, the more you will learn to see the price action of the market in a different light. The more you practice, the more you will be able to recognize inside day candles and anticipate potential breakouts.
- Build your trading toolbox: The addition of the inside day candle strategy to your trading toolbox makes your decisions regarding price action much more effective. This is because it simplifies your trading process and enables you to spend more time in the high-probability setup.
Conclusion
Finding the trade needle in the haystack has never been easy, and with the inside day strategy, it becomes easier while trading and understanding how it works in price action; hence, you can really position yourself for more productive trades when you understand its importance in the expansion as well as contraction cycles.
While trading is risky, continuous learning and practice will help you hone your skills and increase your chances of success. Remember, there are no guarantees in trading, but with the right tools and mindset, you can navigate the complexities of the market with confidence.
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