Trading with Breakouts

Submitted by Stock Market News on 19 May, 2011 - 16:08

Steps in trading breakouts.

Breakout trading is utilised by active traders who prefer to take a position in the early stages of a trend. This strategy can provide limited downside risk if done properly. They can be the starting point for major movements in price and expansion of volatility.

A breakout is a stock price which moves outside a support and resistance level with increased volume. Breakout traders enter a long position after the price breaks above the resistance level or enters a short position when it goes below the support level. When the stock moves beyond the price barrier, volatility usually increases and the price trend in the breakout's direction.

Steps in Trading Breakouts:

  • Choose stocks that have strong support and resistance levels and monitor them. The longer the support and resistance levels are, the better the outcome of the stock price when they finally break out.
  • Wait patiently for the breakout. If you act too quickly there is no guarantee that the price will sustain its new direction. To be able to confirm a true breakout to avoid a fake out, you can use above average volumes which are commonly used by traders.
  • Set reasonable objectives to guide where your trade will go, so that you'll know when to exit. Calculate a stock's average move or measure the distance between support and resistance, especially if you're trading price patterns.
  • Let the stock retest the level it broke and prepare for it. Stock prices usually break their resistance levels, turning it into a new support level and vice versa. This happens in the first couple of days in the majority of your trades.
  • Recognise when your trade has failed. There will be cases when a breakout pattern will fail. When a stock retests a previous level and then breaks through it instead, exit quickly and accept your loss before it accumulates.
  • Consider waiting until your near the market close before exiting a losing trade. Since your in the early stages of a trend you won't know for sure if the prices will hold a certain level. If your stock stayed outside the defined resistance and support levels as the market closes, then its time to move on.
  • Exit according to your trade. After determining your own objectives and hitting your price target, exit and move on.

Trading breakouts requires patience, but if you follow these steps, your trade will become more objective. They will also help you devise your own trading plan that can offer great returns while being able to manage risks if done properly.

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