In this second part of Florin’s breakout study, we get into volume analysis and timing breakouts depending on the market trend, the importance of finding an edge when trading breakouts and having good psychology when breakouts fail and much more.
30 minute breakouts
During Flo’s deep dive into successful breakouts he focused on checking 30 minute timeframes to evaluate successful entries. Doing this allowed him to look closely at the volume during breakouts and where the best stop-loss placement would be.
He named the high volume breakout candles the “Lift-off candle”. He also named the top resistance line as the “frontline”. Each time he analysed these 900 plus stocks he found the optimum point to place his stop-loss around the lift-off candle in the 30 min timeframe.
The lift off candle almost always happens at the beginning of the day, but it also occurs midday and at the end of the day occasionally. When is the breakout more likely to occur?
- 54.3% of breakouts occur in the first 30 minutes of the trading day
- 31.4% of breakouts occur between 10:00 and 12:00
- 69% of breakouts happen in the first hour of the trading day
Flo realised while looking through all of these 30 minute charts, there’s no rush to use the 5 minute charts to enter a breakout, the thirty minute candles are sufficient. There is enough time even when reading the chart and placing your stops and entries on the 30m.
Volume behaviour in breakouts
What can we assume about the average volume on these 963 breakouts?
- In 67% of breakouts there is higher than usual daily volume
- In 33% of cases, there is no exceptional daily volume shown
We can scan for increased volume to find these breakouts, that’s clear, but what about the remaining 33% of breakouts? Unless these were already on our watchlists they are invisible to volume breakout scans and generally more difficult to pin down.
Price action remains the only indicator that could highlight a breakout is about to happen. So the last thing to consider is setting price alerts on these watchlist stocks, also searching for percent gainers with other breakout scan settings.
- There is high volume in 52% of lift-off candles, but not in the remaining 48%
You might think you need higher than normal volume to break through resistance into new high ground, but often that’s not the case. Normal volume can cause breakouts as all the sellers have been exhausted, and there’s nothing holding the stock back from new highs.
To confirm that there is institutions buying at the breakout, it is worth going to the 30 minute bars to check for spikes of volume. Flo often saw high spikes before and after the breakout which give more conviction to the trade. Flo calls these “Volume Towers”.
Market trends during breakouts
Flo spent a lot of time comparing each breakout to their corresponding general market trends. (He checked both the SPY and IWM for this study).
- 62% of breakouts occurred in an up-trending market (SPY)
- 30% of breakouts occurred in a sideways trending market (SPY)
- 8% of breakouts occurred in a down-trending market (SPY)
Similar data occurred when he looked at the IWM index. (58.5% up-trending, 33.3% sideways, 8.2% downwards trending market).
- Most breakouts occur in sideways and up-trending environments, 92% of the time
The importance of this cannot be understated, trading breakouts in a down-trending environment accounts for 8% of all breakouts, successful ones.
To me, there’s almost no use in attempting these trades during a negative environment unless you have follow through days and are expecting and resumption of an uptrend.
Character and skills required for breakouts
Flo has made some excellent points here about what it takes to endure breakout trading over the long run.
He suggests that patience is one of the key elements that make a breakout trader successful. He came across a number of stocks which went sideways for a number of days after the breakout. This consolidation period was necessary for the next leg up after the breakout, he notes that not all stocks rocket higher after their initial breakout.
Be grounded, decisive, sharp and quick. As the stock is approaching the frontline (resistance) then you have 30 minutes to prepare and analyse the price action to decide if and how you may enter the stock. “You have to be quite sharp and decisive within the thirty minutes timeframe”
I would add that to mitigate the quick decisions on the day of the breakout, you could also plan ahead, know the exact number of shares you want to purchase and where the stop-loss placement will be. This way you have a plan in place and there’s no rushed decisions to make in the moment. You can automate these trades ahead of time in your accounts as well.
The last one “Don’t give up”. He found plenty of stocks that retest the breakout area, this re-test can be unnerving especially if you have notions that the stock will race up through resistance and never look back.
Another aspect of trading that can be frustrating (but useful if you are aware ahead of time), is when the stock breaks out, but falls back into the consolidation zone therefore knocking on the door of you stoploss. This action typically indicates there were some more sellers at the front line waiting for this breakout.
Don’t be disheartened. Often the stock will resume it’s breakout if it was meant to be, this may happen the same day or a couple of days later. I’ve heard a few traders say, the second mouse gets the cheese and this is an exact example of that in action.
Where’s the edge when trading breakouts?
There has to be an edge found within all of this analysis, Flo summarises it into four points that tie it all together.
- Recognition of the setups
- Enter at the lift-off candle (in the 30 min timeframe)
- Market context
- Trading character and skills
Recognise the setups
Recognizing the setup is one of the most important setups, how else will you recognise opportunities? This includes seeing the first leg up into consolidation, seeing the consolidation pattern emerge and knowing how price action should progress, checking the 10 moving average is above the 20, understanding the potential moves of this stock via the ADR and so on. “All these elements should be there”
The lift off candle
The goal of this setup is to attempt to enter at the lift off candle or not at all (wait for another entry if you missed the first). This is the most exciting challenge of the whole setup and I think Flo believes it is one of the most crucial.
If you are unsure about how to enter these stocks with precision, check out Flo’s data which can be purchased on his website, there are hundreds of screenshots of 30 minute data showing the correct entries for each breakout. You will learn how they behave and build a picture of these breakouts in your mind which few other traders have. A distinct advantage.
Market context
All the elements which suggest there is momentum in the markets is crucial to trading this strategy, as exemplified in the stats that 92% of breakouts occur in sideways or up-trending markets.
Check the sector ETFs for momentum and an up-trending environment, also be aware of pivots in the market where the trend changes. The overall market trend, either the SPY, Nasdaq, or IWM is not to be overlooked as these are like magnets for individual stocks.
Trading character and skills
One of the greatest edges in the market is in not giving up, finding ways to increase your edge will always benefit you as you move closer to the desired outcome with each test and review of your work.
Unsuccessful breakouts – what can we learn?
Disclaimer, the study of breakdowns is biased – Flo accounted for breakouts and breakdowns that showed sharp price action either up or down, but did not account for stocks that went sideways after a period of consolidation.
- Comparing to the 963 successful breakouts, there was 615 breakdowns.
An obvious point to make, though sometimes easy to overlook in the charts is that on studying positive breakouts, you will see the market supporting price action with strength and upward momentum. On breakdowns, often the consolidation is weakly supported and thus you find less than adequate periods of price action, weakness.
- More momentum in the markets create more breakout setups, but also more unsuccessful breakouts
Flo here states that in the consolidation period a stock can display both strength and weakness. It is seen as a battle between two opposing sides, with one winning in the end with a clear price movement either up or down.
An easy analogy here is a game of tug of war. You have the buyers on one side pulling their weight and the sellers on the other, the winner takes the breakout or break down. A stalemate may be shown as a further sideways consolidation.
Choosing when to engage with a stock – When the stock is near support, (in defence) it’s best not to enter, you could engage when the stock is somewhere closer to resistance in anticipation of a breakout, but do so with experience on your side. The best time to enter is when the stock shows strength and momentum, pushing through resistance.
A great point Flo makes is that even if price action moves toward resistance, looking as though it will break out, it doesn’t have to happen. There are no certainties when trading. Likewise if a stock hovers near support, and appears to be breaking down on strong volume, there might be buyers there willing to purchase the stock and change the momentum.
30 minute timeframes
In hindsight you can begin to see the price action oscillating between resistance and support. This price action is the visual representation of supply and demand in action.
At any point you can see where buyers or sellers have control of the stock.
When doing your own research and studies, highlight the support and resistance lines, then review the strength and weakness seen in each zone. Identifying the breakout or breakdown candle is also useful to learn from. Take note of volume also.
What causes a breakout setup to fail?
There can be a hundred reasons why but here are some indicators Florin picked up on.
- In 2.9% of cases there was an unexpected News catalyst
There’s not much you can do about unexpected news or events but two things in your control are position sizing and diversification. If you know earnings are coming up, limit your position size or take some off the trade going into earnings. You can also spread risk across different sectors, reducing exposure to sector or industry wide events.
- In 10.9% of cases it appears to be due to an earnings call
Trading stocks around catalysts like an earnings call can come back to bite you in the ass. With the right strategy though, you can mitigate some of the pain that can come from a bad or unexpected earnings call.
There can be increased volatility which can cause sharp price swings, or the number of buyers could shrink dramatically meaning you have to sell at lower and lower prices. There’s also a risk of the stock gapping down in price making it a challenge to exit.
Keep yourself informed of earning’s calendars and government reports, then check the historical data to analyse how the stock has reacted in similar instances over the past.
- In 33.2% of cases there was a loss of momentum in the stock
This shows the importance of setting tight and appropriate stop-losses, also trailing stops are useful if you are away from the screens.
Checking the price action and seeing whether it is supportive and showing upward momentum or slowing and stalling is useful in this situation.
- In 53% of cases the general market affected the stock’s price action
Keeping an eye on the general markets is key here, pay attention to stalling action where the volume increases but the price stays level with the day before. This could mean the stock is about to travel down in price. Distribution days are also important to keep an eye on as they can indicate market-wide weakness.
Hourly timeframes
Immediate feedback is one of the holy grails in trading, it let’s us know we’re wrong or that we’re onto something possibly within minutes of placing a trade. Breakdown candles are no different.
- 58% of breakdown candles happen in the first hour of the trading day and 79% happened before 12 PM
Breakdowns vs the SPY
It is common sense to assume most breakdowns occur when the market is falling or in a sideways choppy trend but it’s good to see this confirmed here in Flo’s data.
- 59% of breakdowns occur when the SPY is in a down-trend
- 17% of breakdowns occur when the SPY is in a Sideways trend
- 24% of breakdowns occur when the SPY is in an uptrend
Market direction is one of the greatest edges we have, so many loose their gains after a bull-run due to major changes in the trend. With a little foresight and patience you can check when the market is favourable to trading and when it’s not.
Interestingly though, during breakouts the 10MA is above the 20MA in 80% of cases, whereas during breakdowns the 10MA is above the 20MA in 76% of cases. Using moving averages to check the trend of the market isn’t a valuable tool to avoid breakdowns.
Missing Breakdowns
During downtrends, there aren’t many breakdowns which seems strange at first, but Flo came to the conclusion that this happens because there’s not enough strength for a stock to reach a consolidation period in the first place, thus cannot attempt a breakout.
Leave a Reply