How to Identify Potential Breakout Levels for Trading - dummies

How to Identify Potential Breakout Levels for Trading

By Kathleen Brooks, Brian Dolan

The first step in trading on a breakout is to identify where breakouts are likely to occur. Pinpointing likely breakout levels is most easily done by drawing trend lines that capture recent high/low price ranges.

In many cases, these ranges will form a sideways or horizontal range of prices, where sellers have repeatedly emerged at the same level on the upside and buyers have regularly stepped in at the lower level. Horizontal ranges are mostly neutral in predicting which direction the break will occur.

Other ranges are going to form price patterns with sloping trend lines on the top and bottom, such as flags, pennants, wedges, and triangles. These patterns have more predictive capacity for the direction of the eventual breakout and even the distance of the breakout.

The time frame that you’re looking at will determine the overall significance of the breakout and go a long way toward determining whether you should make a trade based on it. Very short time frames (less than an hour) are going to have much less significance than a break of a four-hour range or a daily price pattern.

The length of time that a price range or pattern has endured also gives you an idea of its significance. A break of a range that has formed over the past 48 hours is going to have less significance for price movements than the break of a range that has persisted for the past three weeks.