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Chapter 5 – The Inside Bar Signal

Chapter 5 – The Inside Bar Signal
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An inside bar is a bar or series of bars which is / are completely within the range of the preceding bar, i.e., it has a higher low and lower high than the bar immediately before it (some traders use a more lenient definition of inside bars to include equal bars). On a smaller time frame it will usually look like a triangle.

  • An inside bar indicates a time of indecision and consolidation. Inside bars often occur within trending markets and can signal a trend continuation as a breakout play. They also sometimes occur at tops and bottoms, key support / resistance levels and in consolidation.
  • They often provide a low-risk place to enter a trade or a logical exit point.
  • The most logical time to use an inside bar is when a strong trend is in progress. If we play the breakout, our stop loss can be defined by placing it below the halfway point of the outside bar or mother candle, or below the low or high of the mother candle.
  • They are very good when trading a trend on the daily charts, and can be good to identify market turning points when trading against the trend (rare).
  • Inside bars show market movement is stalling, these are natural periods of rest that occur before a market makes another strong move.
  • See Chart example:

The definition of an inside bar

There are different variations, but the way I determine an inside bar setup is if the inside bar is contained within the range of the mother bar from high to low. That is to say, I use the mother bar high and low to define the range that the inside bar can be contained within, others might use only the real body of the mother candle as the determining range, but I do not teach or trade it that way. I do allow for one end of the inside bar to be equal to one end of the mother bar, e.g., mother bar and inside bar have equal lows but the inside bar high is lower than mother bar high, or vice versa, this is OK. But if we have two bars with the exact same high and low, I don’t consider this an inside bar setup.

In the example image below, we can see the anatomy of an inside bar setup. Note that the inside bar is fully contained within the range of the high and low of the mother bar. You can have multiple inside bars within the range of one mother bar. If you see a pattern of consecutive inside bars that are “coiling” and all within the previous bar’s range, this can signal that a powerful breakout might be coming, more on this later.

Important note: Since the inside bar setup is by its very nature a potential breakout signal, I MAINLY enter an inside bar on a breakout of the mother bar high or low. If I am looking to buy, I will place a buy ‘on stop’ entry just above the mother bar high, and if I am looking to sell I will place a sell ‘on stop’ entry just below the mother bar low. However, there are instances where you can enter ‘early’, just before the mother bar high or low breaks, these tend to come in strong trending markets when through ‘gut feel’ you’re anticipating the inside bar breakout with the trend…this is a more advanced inside bar entry technique that you shouldn’t try until you’ve gained some experience / screen time.

The BEST way to trade inside bars

The best, easiest and most lucrative way to trade the inside bar setup, and how I want you to learn to trade it FIRST, is as a trend-continuation / breakout play on the DAILY CHART time frame.

Inside bars become significantly more difficult to trade as you move under the daily chart time frame, simply because they increase in number as you move lower in time frame and the ‘chop’ increases. Inside bars on time frames under the 4 hour chart are especially risky and prone to false-breaks and stop outs, for this reason I never trade an inside bar under a 4 hour chart and I urge you not to either. 90% of my inside bar trades are taken on the daily chart time frame and I encourage you to focus only on inside bars on the daily charts as even 4 hour inside bars are pretty difficult to trade if you’re not a very experienced trader.

In the chart example below, we can see a few examples of good inside bar signals on the daily chart time frame. Note the ‘inside pin bar’ combo setup, this is basically just an inside bar that’s also a pin bar, it is traded just like a normal inside bar setup, i.e., on a break of the mother bar high or low, but it has a little added ‘weight’ to it since the market is showing rejection of lower prices, in the case of an uptrend this gives you a little extra clue that an upside breakout may indeed be imminent. For a downtrend, we’d obviously like to see a bearish inside pin bar (showing rejection of higher prices.).

The last inside bar on the right, shows two inside bars within the same mother bar’s range, this happens relatively often and is fine to trade. I typically don’t like more than 3 to 4 inside bars per mother bar though. One or two inside bars followed by the breakout is the ‘ideal’ inside bar signal scenario however.

In the chapter on trends, we discussed the importance of waiting for a retrace back to support / resistance (value areas) before trading a price action signal, as setups near the top or bottom of moves tend to fail often. Well, this is still true, but it depends on market context (always a catch right?).

The thing is this: if a market is in a near ‘perfect trend’ (also discussed in trend chapter) and respecting the 8 / 21 day EMA’s nearly perfectly, you will often see daily chart inside bar setups work very well that form from near the 8 day EMA, after a minimal pullback to value. These inside bars are often lucrative and easy to trade, but it does take some time to develop your ‘gut’ trading feel for these situations; it won’t happen ‘overnight’.

Strong trends with low volatility where price is respecting the 8 / 21 day EMAs tend to need less of a pullback before entering from a price action setup, and inside bars are ideal setups for such situations. We see an example of this below:

Inside bar stop loss placement

I already have a couple of thorough resources on how I place stop losses on inside bars, so I won’t get into too much again here.

Also, checkout Chapter 11 of this course for more on stop loss placements.

Inside bars in trending markets: breakouts from consolidation:

Often, as a market trends it will pause for a while and consolidate sideways before making another leg in the direction of the trend. Inside bars can be good to trade in these situations because they often happen just before the consolidation breaks and the trends resume. In the chart below, we can see an example of this. Note the five days of sideways consolidation that occurred just before the inside bar buy signal formed. If you had placed your stop loss near the mother bar 50% level you could have easily attend a 1:2 risk / reward over a three day period on this inside bar breakout trade:

Coiling inside bar setup

The ‘coiling’ inside bar setup is exactly what it sounds like; two or more inside bars that are ‘coiled’ within one another. That is to say, each inside bar is within the range of the previous inside bar, so the previous inside bar is a new mother bar; the inside bars get smaller and smaller and stay within the range of the previous inside bar.

Let’s look at an example on the charts. Note in the chart below, there are two inside bars within the range of the main mother bar. The second inside bar is ‘coiled’ within the range of the first inside bar. For a smaller inside bar setup like this one, you can just enter on a break of the mother bar low (or high). For coiled inside bar setups with a larger main mother bar, you may be able to get a better risk reward by entering on the break of one of the subsequent mother bars, although this is a more advanced entry technique.

The main thing to remember about coiling inside bars is that they can lead to very strong breakouts because they reflect tighter and tighter consolidation. The coiling inside bar setup shows a lot of ‘compression’, and when that compression is released, it can lead to very strong moves, especially in trending markets. The coiled inside bar setup in the chart below formed in the context of a downtrend in the Gold market, and we can see it led to a very strong continuation of the trend once price broke below the main mother bar low:

Inside bars at key chart levels / as reversal signals

Inside bars can also be traded from key levels of support or resistance as reversal signals. Trading them in this manner is a bit more advanced and should only be tried after you’ve gained significant trading them in-line with the trend as continuation signals as we discussed above.

These inside bar signals from key levels can lead to big directional moves and even changes of trend. So it’s important you learn about them.

In the chart below, we can see a key level of support and an inside bar setup that formed just above it. Note, this level was CLEARLY a key level as it led to a substantial upward move previously. When price tested this level again, it formed a bullish pin bar, followed by the inside bar setup a few days later. The inside bar setup showed us the market was consolidating just above this key support and providing us with a low-risk / high-reward potential by placing our stop loss just below the mother bar low. Note the huge up-move that followed.

  • Inside bar false-breaks at key chart levels

Often, when an inside bar forms at a key daily chart level, it will see price false-break from it before reversing. This is an important event to watch for and it provides you with some understanding of the fakey signal which will discuss in the next chapter.

In the chart below, we can see an inside bar setup formed at a key resistance level. The market tried pushing higher from this inside bar signal initially, but the bears came in and sold the market lower shortly after the break higher, resulting in a huge inside bar – false break.

It’s very important you are cautious with inside bars at key daily chart levels like this as they will often lead to false-break / fakey signals which are themselves very good reversal signals. You’ll learn more on the fakey in Chapter 6, but for now, you should know that inside bars at key chart levels will often lead to false-breaks before the market reverses and moves away from the key level in the opposite direction…

Inside bars after pin bars

Inside bars sometimes like to form after a pin bar. Especially, after long-tailed inside bars at key levels like the one in the chart below. These inside bars provide us with an obvious place to put our stop loss (just above or below the mother bar) and they have the added weight / confirmation that the preceding pin bar brings.

Here’s a good video on inside bars that follow pin bars.

Miscellaneous notes on inside bar trading:

  • Inside bars can sometimes be traded on the 4 hour time frame. However, as I stated above, you NEED to learn to trade them on the daily chart first and even as you progress you should still mainly trade inside bars on the daily chart. I still basically only trade daily chart inside bars. There are a lot of false-breaks of inside bars on the 4 hour and 1 hour time frame, so I tend to avoid inside bars on those time frames. Although, occasionally, you will find some good inside bars on the 4 hour chart in-line with the daily chart trend.
  • I often get emails from people asking about the ‘colors’ of the mother bar or inside bar. What they’re really asking is ‘does the close of the mother bar or inside bar matter?’ The answer, is no. You don’t need to the mother bar or inside bar to close in your favor, like you will want to see on a counter-trend pin bar in most cases. As long as the inside bar makes sense and is ideally in-line with the daily chart trend, you’re OK.
  • Inside bars and fakey’s are two different setups. You can never fully know “for sure” if an inside bar will turn into a fakey. Just like you can never know “for sure” if any strategy or setup will work out before you take it. But there are some things you can do to put the odds in your favor with inside bars…

I actually get a lot of people writing in asking me how to “avoid trading inside bars that turn into fakeys”, the best way to do this is to not trade inside bars against the trend. The only inside bars you should ever consider trading against the trend are ones on the daily chart that are at extremely obvious “core” support or resistance levels (see above notes on this), but please try to stick exclusively to trading inside bars with the trend, and on the daily charts, until you feel you’ve mastered it.

Please proceed to Chapter 6: The Fakey Signal

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