Price Action Trading Explained: Patterns, Setups and Filters

This guide walks you through the foundations of price action trading, from how to read raw price movement to the three most important patterns traders use to find entries: the pinbar, the engulfing pattern, and the inside bar false breakout. We also cover the filters that separate high-probability setups from noise.

What is price action in trading?

Price action refers to how the price of a financial instrument moves over time. Rather than applying indicators derived from price, such as RSI or moving averages, price action traders read the raw movement itself to anticipate where the market is heading next.

The foundation of this approach is that markets are not random. Price tends to behave in repetitive ways because the people trading it respond to similar conditions in similar ways. When a pattern produced a strong reaction in the past, there is a reasonable probability it will produce the same reaction again. This is the core logic behind price action trading and technical analysis as a whole.

Price action is typically read through bars or candlesticks rather than a simple line chart, which only captures closing prices and discards everything that happened in between. Candlesticks in particular are information-rich. The size of the body, the length of the wicks and the relationship between one candle and the next all tell a story about who is in control of the market at any given moment, buyers or sellers, and how much conviction sits behind the move.

This is also why price action trading is sometimes called naked chart trading. The chart carries no overlays, no tools, just the raw price data. Everything the trader needs to make a decision is already there.

Price Action Patterns Every Trader Should Know

Here are some common price action candlesticks which typically point to a defined price direction.

1. Pinbar

A pinbar is a candlestick with just one long shadow and a small body. A pinbar represents a reversal or a rejection of price by the trading counterpart to the prevailing trend. The rejection forms the wick/shadow of this candle.

A pinbar does not always produce a reversal, contrary to what you may see in articles on the internet. However, there are different types of pin bars. Some pinbars will not indicate a reversal but a continuation of the trend. Here are some examples to showcase this point.

Pinbar rejection amid uptrend

The snapshot above indicates how a pinbar leads to the continuation, not a reversal. If the wick is long and forms in the direction opposite to the trend, this is a sign of the trend pushers resisting attempts by contrarian traders to reverse the trend. Ultimately, trend continuation and not a reversal will be the result.

Pinbar rejection amid downtrend

Here, we can see three rejection pinbar candles in the direction of the trend, leading to the eventual price collapse in the context of the downtrend.

Also, the location of a pinbar will tell the trader if the price will continue in the trend's direction or will reverse. If there is an uptrend and the pinbar forms with a long upper shadow at a previous resistance, this will be more supportive of a downward reversal.

This example illustrates this point. The predominant trend here is a downtrend, with the price candle lows initially forming a support level that was degraded by a long bearish candle. Following this, there was a period of upside retracement as the price corrected. Then we had two successive pinbars that were formed by rejection at the former support that reversed roles to become a resistance mark. The bullish candle preceding the pinbars had a much smaller body than the preceding bullish candle, indicating that buying pressure was starting to thin out. The confirmation of price action resuming the downtrend following pinbar rejection was obtained when a new bearish candle that closed below the lows of the pinbars emerged. This scenario set up a steep drop in price.

2. Engulfing Pattern

The engulfing pattern is a bar/candle pattern composed of a smaller first bar/candle following a larger second bar. In other words, the first candle's highs and lows are contained within the range of the second candle, in which case we say that the second candle has engulfed the first one. This is where the pattern got its name from.

The engulfing pattern is a clear reversal pattern which should only be used when it appears after the ongoing trend has been in progress for some time. Here is what the engulfing candle looks like:

The engulfing pattern indicates that the contrarian traders have rejected the ongoing trend to the point of sending back the price below the low of the first candle of the pattern. The first candle is usually the colour of the prevailing trend, while the second candle is the colour of the reversal. This is displayed in the snapshot below:

Engulfing pattern (bearish) reversing an uptrend

We can see that the initial trend is an uptrend and met an initial resistance at 37.84. The formation of an engulfing pattern at this resistance confirmed the trend reversal, which pushed the price down from 37.84 to 35.40.

The engulfing pattern also works in the other direction. Here, the second candle closes above the first one, indicating that buyers were now pushing to reverse the prevailing downtrend.

Engulfing pattern (bullish) reversing a downtrend

The engulfing pattern is one of the most reliable patterns used for price action trading.

3. Inside Bar False Breakout

The inside bar false breakout strategy showcases a false breakout that follows an inside day pattern. This pattern has several bars (at least 3-4 bars) and shows a brief price break followed by a quick reversal to close within the range of the first or second bars.

What is responsible for the inside-day false breakout pattern? A well-recognized strategy of institutional traders is to place entries close to where the retail traders have placed stops. To understand this behaviour, you must be conversant with how institutional traders set their trades.

Every asset traded in the financial markets has three sets of prices. The interbank market sets a price for an asset offered to sell-side parties (investment banks). The trading desk traders at these banks have platforms which allow them to see the prices set for the same assets at exchanges/dealing desks at retail brokerages. Institutional traders usually have a margin between the prices at which they have acquired assets and the prices at exchanges. So you can be sure that whatever price you see on your retail platform is a markup for the institutional traders. So whenever there is a collection of entries and stop losses on retail platforms, the institutional trade entries will more likely be set where retail stops are set. This is why you sometimes see what looks like a breakout in one direction, only for a quick reversal to occur and send the actual breakout in the opposite direction. This entire sequence of price action manifests as the inside day false breakout pattern.

What does this pattern look like? There are two variations. One variation ends with a pinbar with a rejection wick opposite the new breakout's direction. In contrast, the other variant ends with a long candle opposite the fake breakout and closes below the low of the first candle (downside move) or above the high of the first candle (upside move). The following snapshots indicate what the patterns look like.

Inside bar fakeouts with pinbar rejection

Inside bar fakeouts with long candle reversal

Chart showing inside bar fakeout with bearish candle reversal

This snapshot shows the price action within the circled area that eventually led to a drop in the price. Note the following points:

1. The initial trend entering the circled area was a downtrend, so the top-down analysis of the trend playbook is for the downtrend to have continued. This is very important.
2. Within the circled area, the inside bar pattern and the candles around it had their tops around the orange resistance line. The green fake breakout candle to the upside would easily lure many traders to go long.
3. Following the fake breakout candle, the price formed a doji due to a pushback/rejection from sellers.
4. This doji was followed by a long bearish candle that closed below the inside bar pattern low, confirming that the selling pressure in the market was now in progress. Any protection stops placed below the inside bar as a follow-up to a potential buy on the fakeout would have been taken out by now. Also note that this candle's lower shadow was short relative to the candle's long body, indicating that the rejection seen on the bearish candle was weak.
5. What followed was a full resumption of the initial downtrend.

Bonus: Another Trade Example

Here is an example of a trade that could have been taken using price action. This is the 15-minute chart of Aptos, a crypto token in its pairing with Binance USD (APT/BUSD). Here, we see a situation where there was a quick burst to the upside, pushing the price from 1.5700 to just below 1.7000. This candle broke above the 1.6025 resistance, marked by the blue horizontal line. After this candle, the next candle pushed the price above the 1.7000 mark.

As the chart shows, this bullish candle met rejection, and the bears pushed back against the move, forming a pinbar pattern with bearish connotations. A long bearish candle followed, revealing the change of bias in the market. The price action eventually condensed into a period of consolidation, with the candles forming lower highs and higher lows. This created the symmetrical triangle that formed on the chart.

The big question here is: where does the price action head to? The chart below answers this question and presents some pointers the trader could have used to take a proper position in the accurate direction.

First, let us understand the context of the initial breakdown of the symmetrical triangle. Following such a large spike which ended with the formation of the pinbar, the price action's propensity would be to continue the corrective move. The breakdown of the symmetrical triangle's lower border was a pointer that this was the preferred direction of the asset. Having secured the initial breakdown, the price action was experiencing some hesitancy. Here, the market sought to reassert the move to the south at a relevant point. The red box presented itself as an excellent area to perform this move for several reasons.

1. It was an area of previous resistance.
2. Extending the triangle's upper trendline would have crossed this area, thus reinforcing this resistance.
3. A series of candles in this area (shown in the second snapshot) indicated that the attempt at upside continuation had run out, and the only way for the price action to go was to continue the overall market correction.

What followed next was the full correction of the market, displayed by the large bearish candle that indicated an overwhelming selling reaction of market participants.

Use Filters for Best Price Action Trading Results

It would be best if you allowed various factors to come together to get the best results from price action trading. This is because not all price action patterns are alike. Also, such patterns appear in areas where you can take the trades instantly. There are also places where you will see such patterns, but the additional conditions would negate the trade.

Use filters for your trades. For instance, trying to trade a bearish price action pattern at strong support is likely to fail. Failure to observe the direction of the trend that precedes the pattern could also lead to trade failure.

So what filters do we see in the examples shown above?

In the pinbar examples, we can see that the eventual price direction followed the previous trend, i.e. the trend preceding the price action pattern. Also, the second and third charts showed that the price action patterns played around known resistance levels, which promoted the eventual cascade to the downside on pattern resolution.

Adding additional filters like support/resistance and trend lines will promote tremendous success, even though some may argue against their use in line with keeping the charts as naked as possible.