Breakout Trading Explained post

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Today we will explore breakout trading as a trading methodology that seeks to buy when the price breaks out of a specific price structure. It could be a breakout of a swing high, a breakout of resistance, a break out of a range so as the price moves a certain amount in your favor and in your direction. That is where you enter the trade and that is a breakout.

Trading is all about what you are buying, as the market is moving in your intended direction compared to a pullback where you’re buying, as the market is moving against your intended direction. So a breakout is when you’re buying when the market is moving in your intended direction.

Breakout Trading Explained

How to trade breakouts?

So how not to trade breakout. There are many traders all right on social media where they post a chart and their chat is really good, and they buy because they are thinking to themselves ““Look at that shot it’s so optimistic it is “going to the moon”. But there are two problems with this:

  1. When you chase such a breakout there is usually no logical place for you to set your stop loss. This means you are going to set the stop loss at a random level where the market does not respect and this brings us to problem number two.
  2. When you chase the market what is going to happen is that this is when the market is about to make a pullback or even a complete reversal and if you set uh nonsensical stop-loss, as it was mentioned earlier, you will likely get stopped on the pullback or the reversal. 

This is why when you look at the charts, if it looks really optimistic, if it looks like it’s going up every single day. Today it’s more likely to go up as well if you’re thinking along those lines. 

So how do you trade breakouts? There are one tips dump if you want to trade breakouts look for this specific thing, it’s called “look to trade breakouts with a build-up” Let’s say for example the market is rich between these highs and these lows price has now approached the highs of the range.

Breakout Trading pattern

So if in the past what happens is that if the price has five big bullish candles coming to resistance and breakout, that such breakouts you want to avoid because move too fast and too soon. What you want to do instead is to watch the price approach resistance, and you don’t want it to break out just yet instead what you want to do is to form a build-up to form a tight consolidation. So imagine the price is at resistance, and it starts to consolidate very tightly for the next 10 candles.

five big bullish candles

This is good because this to me is a sign of strength. It tells you that there are buyers willing to buy at these higher prices in front of resistance and the fact that it did not reverse down immediately from resistance tells you that you know there’s some buying pressure willing to hold up these higher prices.

Breakout zone

What you want to do now is that if you notice a buildup that is being formed at resistance now you can look to buy. If the price breaks out of resistance and your stop loss now right has a logical level you can just set your stop-loss below the low of the build-up. This is the build-up your stop loss can just go below this low over here and that is a logical level for you to set a stop loss compared to setting your stop-loss below the low of the range which is so much wider. 

setting your stop-loss

Tracking the trend

Do you want to look for a build-up before or rather to trade a breakout with a build-up? The entry point is very simple: when the price breaks above resistance you can go with a buy stop order, or you can look for a break and close above resistance and get long your stop-loss is just below the lows of the build-up. To give it some buffer you can set your stop-loss one ATR below the lows of the build-up.

Now the question is let’s say the market breaks out, you have a proper stop-loss where do you exit your winning trade. In such market conditions, I like to trail my stop loss because if the price breaks out of a range there is a good chance that this could transform into a new uptrend. So a very simple technique that you can use is you can use a tool like the 50 period moving average. As long as the price is above the 50 period moving average you hold on to that position when it breaks and close below the 50 period moving average then you exit the trade. 

50 period moving average

In this article, we examined what breakout trading is and how to trade the breakout. Want to see more watch the video on my channel. Happy trading and good profit.

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This post is also available in: Indonesia Português

About the author Rayner Teo

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