Breakouts are a common phenomenon in the Forex market and occur across different chart intervals. It is therefore no surprise that break out trading strategies have become one of the most popular ways of trading Forex, besides other strategies such as trend following methods.
What is Breakout in Forex?
A breakout is a price movement of a security through an identified level of resistance, which is usually followed by heavy volume and an increased amount of volatility. Traders buy the underlying asset when the price breaks above a level of resistance or when it breaks below a level of support.
A breakout is the point at which the market price breaks away, or moves out of a trading range. The trading range can be for any length of time but once prices exceeds the high or low of the range, a breakout has occurred. The accepted market wisdom is “buy low sell high”.
What is False Breakout in Forex?
A false breakout is when price temporarily moves above or below a key support or resistance level, but then later retreats back to the same side as it started. This is the worst case scenario for a breakout trader that enters in a trade as soon as price breaks.
How to Avoid a False Breakout.
The solution to this problem is actually pretty simple (as depicted above). Rather than act on a trade in real time as soon as price breaks a key level, we should wait until the candle closes to confirm the breakout’s strength. So the idea of setting entry orders above or below a support or resistance levels to automatically get us into a breakout trade is not a very good one. Entry orders allow us to get “wicked” into breakout trades that never actually materialize.
On the surface, this would lead us to believe that the only way to effectively trade breakouts, is to be at our trading terminals ready to act as soon as the candle closes in breakout territory. Once the candle closes, we can then open our position that hopefully has a higher chance of success.
Strategies that are likely to provide traders with more success involve being patient and waiting for the breakout to happen, then trading the trend if it occurs, or waiting for a correction and seeing if the price resumes the breakout direction. With a good defined risk/reward ratio is most cases, break outs can become easy to trade with enough practice and understanding of various aspects such as trend lines, channels, support and resistance.
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