Breakouts through resistance levels are among the most desirable trade opportunities for investors. This discussion will focus on buy opportunities during breakouts, but remember that an equivalent sell opportunity occurs on breakdowns through support. A breakout refers to a situation where a stock’s price moves past a resistance level that was previously tested several times, establishing a new price threshold.
It sounds simple, right? That’s how it seemed to me when I attended a $1,000 seminar or read a $90 trading book that promised to make me a wealthy, independent trader.
Breakouts are fantastic if they continue upward. However, if a breakout fails, the price often falls back into the previous trading range and may even touch the lower price level before rising again. This drop may exceed your stop-loss level, leading to an unsatisfactory outcome.
Failed breakouts are more common than we like to believe. Many traders react nervously when they see a breakout, leading to a significant number of quick exits at the slightest negative price movement. This phenomenon is often called “buyer’s remorse” or a “bull trap,” and it can severely impact your profit and loss.
Keep in mind that breakouts typically occur in an established range-bound market. The continuation of sideways movement within that range is more common, while a successful breakout is the exception. Mistakenly believing that breakouts are the norm can be costly in terms of trading losses.
When analyzing any stock, it’s important to determine whether it has a tendency to trend. This can be observed using technical indicators such as Moving Average Convergence Divergence (MACD). Successful trading relies on identifying trending stocks since they are more likely to generate consistent profits, rather than stocks that are constantly fluctuating up and down without a clear direction.
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