This is a guest post by Ahmad Hassam
Breakout trading can be highly profitable. But the problem is most breakouts tend to fail often. A breakout fails when the price returns to a point before the breakout. Suppose the price breaks out above the resistance line but soon retraces back below the resistance line. This means the breakout was false. But in many cases, prices retraces itself slightly above or below an important breakout level before continuing in the direction of the breakout.
So what you need is a stop loss strategy that gives the trade a little breathing room. This means placing the stop loss under the last minor low in an upside resistance breakout or the last minor high in a downside support breakout. This stop loss strategy provides the necessary breathing room while trading breakouts.
While trading breakouts, you need to utilize entry filters to distinguish a true breakout from a false breakout. One entry filter entails waiting for a certain minimum price increment before entering into a trade in the direction of the breakout. If the price moves beyond the certain minimum price increment, it means that the momentum is in the direction of the breakout.
Another entry strategy entails waiting for the breakout candlestick or the bar to close. If the breakout candlestick or the bar does not close beyond the breakout level, it means it is a false breakout. If the breakout bar or the candlestick closes beyond the breakout level, wait for the next bar or the candlestick to close beyond the breakout bar or the candlestick extreme in the direction of the breakout. If it doesn’t, wait for the subsequent bar or the candlesticks before entering into a trade in the direction of the breakout.
Another breakout trading entry strategy is to wait for the pullback in the downside breakout or the throwback in an upside breakout. As a breakout trader, you can wait for the pullback or the throwback to take place and then enter into a trade in the direction of the trade or you can use it as a secondary entry if the original entry was missed.
The best method to exit a breakout trade is to use a trailing stop loss. Once, the breakout is confirmed by the above strategies and you enter into a trade, simply use a trailing stop that will trailing the price action and take you out of the trade automatically when the momentum slows down and the price action starts to make a retracement. Always use a stop loss as described above so that you don’t get burned out by a false breakout.
Download this Trading The Line 15 page Ebook by Jeffrey Kennedy FREE that shows how to use trendlines in spotting trend reversals. Master these highly profitable Candlestick Patterns with this 82 page FREE Candlestick Guide.