The Logic of Trading Breakouts

Filed under: Learn Forex Trading |

 

Trading a ‘breakout’ is one of the most common ways of trading the forex markets. This involves waiting for price to break through a pre-defined area. This area is usually an area of support/resistance that has proved to be very durable. Once this area is broken, traders can then be confident that the market has a good deal of strength and momentum, and they can trade with this momentum and ‘ride the wave’, so to speak.

 

For example, let’s say the GBP/USD pair has been trying to break through a level at 1.60 for over three months. There have been several attempts, but the market held firm at that level every time. Then, price approaches this level once again. This time, price breaks through the 1.60 level and most importantly; it closes well above this level on the daily chart and begins to form a new candle. The close of the candle is very important with a breakout strategy, because there can often be a fake-out, whereby many traders are caught out with a false move. Large institutional traders often manufacture these fake-outs so that people enter trades and then get stopped out; allowing them to control the market.

 

I would suggest always waiting until the close of the candle (whatever timeframe you are trading off) until the breakout is confirmed. Always place a stop loss below the support/resistance area of the breakout, and make sure you are going with the current dominant momentum. This way, you can ride that momentum and not go against the tide. We all know how tough swimming against a tide can be – so why do it? It is much easier to go with the flow, and that is what trading breakouts is all about – going with the flow.

 

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