As you gain more experience trading the stock market, you will begin to see that the market is cyclical in nature – it takes on, and repeats, certain patterns, patterns that you can take advantage of. For instance – markets can be bullish, forming higher peaks and valleys to form an upward trend, or they can be bearish, forming lower peaks and valleys, forming a downward trend.
But there is a third type of trend, often ignored by traders – the sideways trend. This trend occurs when prices bounce between support and resistance levels, without any real direction.
While you can trade in a sideways, or “rangy” market, the best opportunities are when “breakouts” occur – that is, when the price “breaks out” of the range in an either upwards or downwards direction. Once prices accelerate upwards (or downwards), many traders, especially trading share derivatives, will take advantage of the price acceleration.
As the name implies, a “breakout” happens when an asset clears a significant price level that represents a past “psychological zone”, where buyers and sellers were fighting to take control of the market direction.
The 3 Different Kinds Of Market Phases
According to Charles Dow, a trend has 3 parts – primary, secondary, and minor.
The primary trend represents the general direction of an asset, while the secondary trend is usually a correction within the primary trend. Minor trends are fluctuations within the secondary trend.
While the major trend can last from a few months to years, the secondary usually lasts between three weeks to three months, the minor trend usually being shorter than three weeks.
Within a trend, there are different kinds of movements you can take advantage of. This is especially true with lateral price movements helping the market to consolidate, which makes range breakout trading techniques quite popular.
So, focus on consolidation phases, and keep in mind that they do not last forever.
A range breakout happens when prices have been trading sideways and then suddenly increase (or decrease) with higher trading volume and volatility, as they break through resistance/support levels.
While support and resistance lines are arguably the best breakout trading tools, you can also do breakout trading with different chart patterns.
Chart Pattern Breakouts
Chart patterns are part of the technical analyst’s toolbox, as they help visualize current price movements to forecast where prices are heading. A price pattern is a recognizable configuration of price movement that is identified using a series of trendlines and/or curves.
Chart patterns signal either 1) a change/reversal in trend, or 2) a continuation of the existing one. Of the former, there are double tops, triple bottoms, head and shoulders, and others, while continuation patterns are those such as flags, wedges, pennants, rectangles, cup and handles. These are chart patterns where traders will enter when prices exit the pattern.
A Final Note
As a breakout trader, you can take advantage of breakouts and strong price movements regardless of your trading style (day trading, scalping, swing trading, etc.) and the time-frame of the charts you use (1-min, 1-hour, 4-hours, daily, weekly, etc.). If you are new to investments but you think you have what it takes to become a successful trader, try share trading apps that offers a free demo account first.
Remember to look for trends when you’re studying history price data and charts. Then, closely monitor price patterns to determine when prices are about to accelerate after a period of consolidation, and where prices are going after a breakout occurs.
While breakouts give clear indications about when to enter the market, they usually give less information about exit points. However, with chart patterns there are some clues you can use to help you set up your price target.
For instance, you can anticipate the magnitude of the breakout by using the height of the left vertical side of the triangle pattern, and then applying it to the level at which prices are accelerating upwards or downwards.
Taking time to learn more about the different chart patterns will help you create a better trading plan dedicated to taking advantage of breakouts.