Breakout: A stock price moving above a defined level of resistance with increased volume.

A breakout traders’ strategy is to initiate a long position after the stock price breaks above the resistance level. The key to trading breakouts is to focus on big, obvious chart breakouts (multi-day, multi-month, and multi-year work best, as well as breakouts over the premarket high)

Breakouts occur in all types of market environments, but of course there is a higher probability of successful breakouts happening in times of high market volatility. It is extremely important to understand that not all candlestick breakouts are the same and to focus on refining your breakout strategy to avoid being caught in a fake breakout.

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Premarket High Breakout:

The premarket high breakout is a simply strategy that is best used on low float stocks with some sort of catalyst, and good volume. The goal is to initiate a long position once the price breaks over the premarket high ($8.17) with good volume, then to take profits as seems fit. If the breakout fails, you must cut the loss immediately as a rejection of the premarket highs will send the stock into an All Day Fade.

 

Multi-Month Breakout:

This is another type of breakout that works well for swing traders, as they tend to span out for multiple days. (this does not mean that these breakouts are bad for day traders! The strongest breakouts tend to happen when a stock breaks a HUGE level of resistance that has formed over months/years)

 

Notice how the low float stock $AWX had a huge multi-month resistance form at around 3.24. Once the stock got a catalyst and received a huge influx of volume, it was able to break above 3.24 and run to $20.00! Note that once the volume dies off, the stock WILL DROP. It is not something that you want to hold on to forever, it will end!

 

Fake Breakouts

Not every breakout will lead to a successful trade (just like any other strategy, nothing works 100% of the time.) This is why it is extremely important to instill proper rules within your trading, such as cutting your losses quickly and basing your trades around a profitable risk:reward ratio.

 

Notice that even though the price was able to break the previous high at 2.59, there was still too much resistance (sellers) and it rejected the breakout. Once the rejection happens, the price will likely continue to fall and test the support level.

The Bottom Line

Breakout Trading is a very simple way to start creating your trading strategies. It is very critical to understand what fuels the breakout, meaning understanding if the stock has a catalyst behind it. This can be positive news behind the company itself, overall positive news within the industry that the company operates in, or simple volume from the chart pattern itself.

It is extremely important to instill a proper trading strategy behind the trade, and utilize proper risk:reward management in order to stay consistent with this strategy.

You can find out more about the breakout strategy and proper risk management in our free trading workshop. It includes 3 training videos, a PDF of the top strategies to trade, and a cheat sheet to help plan your trades.

Have you been profitable with breakouts? What breakouts work best for you? Leave a comment below!