As in all financial markets, a false breakout can occur when trading Forex as well. Also known as a “fakeout”, breakouts can also provide traders with a unique trading opportunity in the reverse direction.
How to Avoid False Breakouts in The Forex Market?
Sometimes technical traders are classified into two groups – range traders and breakout traders.
When a currency pair gets capped or when it’s supported by a particular technical level and gets near it, range traders will attempt to take advantage and take a position in the opposite direction.
In other words, they purchase the asset when it gets near the support and sell it if it comes close to the resistance level. Furthermore, if the pair breaks above resistance or below the support it usually leads traders to make a sharp outwards move which includes selling the asset if it breaks support or purchase it if it moves above resistance.
For instance, an asset can break below the support or barely break above the resistance without moving further in that direction. In this case, traders wait for the ‘real breakout’ before they make their move. Also, there are instances when a sharp rebound can happen immediately after the “fakeout”.
There is a number of reasons why this happens and some of them include when some market parties are interested in boosting the price to certain levels, setting off barrier options or Double No-Touch options and so on. On the other hand, other market participants prefer to keep clear of such levels and this conflict results in exciting price action.
Keep in mind that these movements don’t reflect any kind of long/short term trends, but solely market participants’ interests. In these instances, the participants who boost the pair to a certain price level let it go after they accomplish it. This results in the false breakout followed by a sharp rebound.
False Breakout Example
In the image below you can see the example of a false breakout that happened with the EUR/USD currency pair.
The currency pair moved near the key level at 1.25 and suddenly plunged below it to hit 1.2495. EUR/USD stayed below that line only for a couple of moments before climbing back up to reach 1.2547.
Therefore, the false breakout served as a jumping board for a retracement. The drop happened rapidly while the retracement happened over a longer period of time. One of the ways to trade a “fakeout” such as this one is to take a position for the opposite direction just under the line.
On the other hand, you could stalk the breakout but in place of following the breakout’s direction, make a move towards in the range trading direction after making sure that it was a false breakout.
In conclusion, knowing how to trade “fakeouts” can significantly impact your chances for success and make a distinction between amateur and professional trading. That’s why learning to identify and trade false breakout patterns can take your trading to the next level.
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