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Lesson 10: Breakouts and Fakeouts
Breakout trading involves identifying when price moves beyond established support, resistance, or consolidation patterns. While potentially profitable, this strategy is complicated by fakeouts—false breakouts that trap traders before reversing. Understanding both breakouts and fakeouts can help you capture significant price moves while avoiding common traps set by the market.
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8 min read

What Is a Breakout?

A breakout occurs when price moves decisively beyond a well-defined boundary, such as:

  • Horizontal support or resistance
  • Trendlines
  • Chart patterns (triangles, rectangles, flags)
  • Volatility indicators (Bollinger Bands, Keltner Channels)

Successful breakouts often lead to strong momentum in the breakout direction as new traders enter the market and stop-losses are triggered.

Illustration 1: Create a chart showing a clear breakout from a rectangular consolidation pattern with increased volume at the breakout point.

The Role of Volatility

Volatility measures the rate and magnitude of price changes. Understanding volatility is crucial for breakout trading:

  • High volatility: Rapid price fluctuations with large candles
  • Low volatility: Price moves in tight ranges with small candles

Breakouts typically occur after periods of low volatility (consolidation). As markets contract, energy builds up, eventually leading to an expansion phase when the price breaks out.

Anatomy of a True Breakout

Genuine breakouts typically share these characteristics:

  1. Increased volume: Volume spikes as the price breaks the boundary, showing strong conviction
  2. Momentum: Price moves decisively beyond the boundary, not just touching it
  3. Follow-through: Continued movement in the breakout direction in subsequent periods
  4. Retests: Price may return to test the broken level from the opposite side before continuing


Understanding Fakeouts

Fakeouts (false breakouts) occur when price temporarily moves beyond a boundary but quickly reverses. They happen because:

  1. Liquidity hunting: Large traders deliberately push price through known boundaries to trigger stop-losses and pending orders, creating liquidity for their own positions
  2. Trapped traders: Breakout traders who entered at the breakout become forced sellers when price reverses
  3. Lack of follow-through: Insufficient conviction to sustain the breakout direction

The Order Flow Behind Fakeouts

Understanding order flow helps explain why fakeouts happen:

Above resistance levels, two types of orders accumulate:

  • Stop-loss orders from existing short positions
  • Buy stop orders from traders anticipating a breakout

Both are buy orders, creating a pool of liquidity. Large market participants often target these clusters of orders, absorbing them with their own selling, causing the price to reverse after the initial breakout.

The same happens in reverse at support levels, where sell stops and short-entry orders create liquidity pools.

Trading Genuine Breakouts

To capture real breakouts while avoiding fakeouts:

  1. Wait for confirmation: Instead of entering at the exact breakout point, wait for a close beyond the boundary and possibly a retest
  2. Check volume: Higher volume on breakouts suggests greater conviction
  3. Use the retest: Enter after the price breaks out, pulls back to test the broken level, and resumes in the breakout direction
  4. Look for consolidation: Strongest breakouts often come after tight consolidation phases

For example, a trader might wait for gold to not only break above resistance but also close above it on strong volume, then enter after a slight pullback tests the broken resistance as new support.

Breakout Trading Strategies

The Confirmed Breakout

  1. Identify a clear boundary (support, resistance, pattern)
  2. Wait for price to close beyond the boundary
  3. Enter after a retest of the broken level
  4. Place stop-loss beyond the retest point
  5. Target the next significant support/resistance or a measured move

The Fakeout Reversal

This strategy takes advantage of fakeouts by trading in the opposite direction:

  1. Identify a potential breakout level
  2. Wait for price to break but show rejection signs (long wick, reversal candle)
  3. Enter in the opposite direction as the failed breakout
  4. Place stop-loss beyond the extreme of the fakeout
  5. Target the opposite side of the original range

Key Takeaways

  • Breakouts occur when price moves decisively beyond established boundaries
  • True breakouts feature increased volume, momentum, follow-through, and possible retests
  • Fakeouts happen when price temporarily breaks a boundary but quickly reverses
  • Large traders often trigger fakeouts by targeting clusters of stop-losses and pending orders
  • Waiting for confirmation and retests improves breakout trading success
  • Smart stop placement and patience help avoid fakeout traps
  • Both true breakouts and fakeout reversals can offer trading opportunities

Next Steps

In our next lesson, we'll explore multiple timeframe analysis – a technique that helps traders align their trades with larger trends while finding optimal entries on lower timeframes, providing a more complete picture of market conditions.