Channel Breakout and False Breakouts
Channel Breakouts are a popular method of trading stocks. The principal
behind a Channel Breakout is that when a stock trades above the highest
price or below the lowest price in the last N (number of periods) number of
periods, a new trend may be starting to take place.
This channel trading method can be used in any number of periods from minute
bars to weekly time frames.
The results of using such a method will often result in a stock moving above
a defined resistance or below a defined support area.
I feel that with any pattern, indicator, or strategy, the key is to
recognize when it works and when it doesn’t. A pattern or indicator tested
over a long period of time may only have a 50-50 chance of working out in a
trader’s favor. A key to successful trading is to limit losses with stops
and recognize when the pattern or indicator did not perform as expected.
Let’s look at a stock that has had a false breakout today.
I also call this “Traders Remorse”.
Let’s look at Cisco Systems (NASDAQ: CSCO).
CSCO has been in a trading range at lower levels.
Over the past 4 days, CSCO traded between 50 and 55.
Yesterday, CSCO closed at the high of the range on the rally in stocks.
Today, CSCO gapped open at 56 1/16 and moved up quickly to a high in the
first hour to 58 7/16.
Then trader’s remorse set in. CSCO never traded higher during the day and
closed on its low.
If CSCO opens down in the morning, I would exit any longs.
An aggressive trader may want to consider a short on a break below 54.
If shorted below 54, I would place my stop at 56 3/8.
If CSCO opens up, do NOT short or exit the stock.
