Using a Breakout Strategy

Breakout FX trading strategies are considered very volatile, yet profitable in the FX market. Breakout strategies are mostly based on market fluctuations and profits are made when the price trends “break out” of the boundaries. This is deemed as a very simple trading strategy where even a new trader can mint good profits in minimal time.

To understand this strategy, we first need to understand what ‘breakout’ is. Put in simple terms, ‘breakout’ means the movement of the security price beyond the ‘resistance’ or the ‘support’ trend lines. The support line slopes upwards, while the resistance line slopes downwards. Both the lines are volatile and show immediate trend change going by the price volatility. The two lines tend to intersect each other at a point and thus form a triangle, popularly known as “Trading Triangle”.

When the price moves beyond either of the above lines, it’s termed as a ‘breakout’. This happens only when the trading volumes in that scenario are more than expected levels. The market turns “bullish” when the price “breakouts” the resistance line and “bearish” when it “breakouts” the support line. Hence, the trader “goes long” or buys more stock in the prior scenario and “goes short” or sells more in the latter.

When a trader designs his trading strategy based on the “breakouts”, he should always note that these breakouts are a sign of forthcoming price volatility. Hence, when the price starts breaking out the resistance line, the trader anticipates a fall in the price further and hence takes long position. Similarly, when the breakout is on the support line, a future price increase may be presumed and hence the trader may take a short position.

Breakouts are very dominant in an extremely volatile market like forex. Often highly dynamic price fluctuations occur from breakout strategies like channel breakouts and pattern breakouts. Breakout strategies are largely implemented in all methods of trading, especially intra-day, day trading or weekly. The number of times the price dynamically touches the trend lines is termed as “bounces”. Hence, more the number of bounces, higher are the chances of a trader trading more based on these breakouts. A trader sees for a minimum of four such bounces before he decides to use the breakout strategy.

A wise way to go for a breakout strategy is to consider the price fluctuation, pattern formations and the stability of the pattern. Also, one needs to understand a real breakout and a false breakout. A false breakout, termed as “fake out”, occurs when the price movements depict an exactly opposite picture to the trader than the real one. After sometime, one might see that the price actually goes back to its real breakout behavior.

A wise trader should never act in haste in such scenarios and check for the consistency of the price movements and the volumes of the trade. Only higher than average trading volumes and the consistency in the movements is a determinant factor for a trader to implement effective breakout strategies.

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