Breakout trading is used by investors to enter a position aligned with an asset’s initial trend… before it breaks past a support or resistance level with increased volume.
This means you’ll either enter a long position after the stock price breaks above resistance or enter a short position before it sinks below the support level.
Your understanding of the various chart patterns will play a big part in your breakout trading.
Refer to the 10 Chart Patterns You Should Know How to Read for a refresher if you feel like you need it.
Where To Spot a Breakout
You’ll notice breakouts take place in every market environment. You can spot a potential breakout with technical analysis of charts.
With proper technical analysis, you can predict explosive price movements looking at head and shoulders, triangle, and flag patterns.
There will be other indicators you should look for such as resistance. While this makes the asset volatile in price, it’s a good sign of a pending breakout.
And no matter the time frame, breakout trading is a viable strategy. It can be applied to any style of active trading.
What to Keep In Mind
If you want to spot a good breakout in an asset, you need to consider its support and resistance levels.
If you see any price resistance between these areas in the chart, a breakout becomes more valid.
And the longer the periods of price resistance, the breakout becomes a stronger possibility. But here’s what else to consider:
- Entry Points: It’s very cut and dry here when it comes to entry points. The point is to set yourself up for that alley-oop when the price slams past support or resistance levels. For example, you should enter on a bullish position if prices are set to close above the resistance level… or if prices close below a support level, you’d enter on a bearish position in an attempt to short the asset.
- Planning Exits: Ensure you have your stop-losses or stop orders in place. Even with technical analysis, some chart patterns can lead to false breakouts. Don’t get greedy either… take your profit targets when you reach them.
How To Trade a Breakout
Find stocks or assets that have reliable support and resistance levels. Monitor the volatility of the price action. You want to see resistance or tug-of-war between the bulls and bears.
Then wait for the initial breakout. Remember, this might end up being a long play so patience is required. Depending on the chart patterns, you could be waiting several weeks to a year or longer.
Keep your trading goals reasonable and objective. Don’t let emotion take over. If you stick to your entry and exit plan, and manage risk with stop-losses, you’ll be fine.
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