Chapter 14
Technical Trading Strategy: 20-Day Breakout Trade

Trading breakouts can be both a rewarding and frustrating endeavor as breakouts have a tendency to fail. A major reason why this can occur frequently in the foreign exchange market is because it is more technically driven than others and as a result, there are many market participants who intentionally look to break pairs out in order to “suck” in other nonsuspecting traders. In an effort to filter out potential false breakouts, a price action screener should be used to identify breakouts that have a higher probability of success. The rules behind this strategy are specifically developed to take advantage of strong trending markets that make new highs that then proceed to “fail” by taking out a recent low and then reverse again to make another new high. This type of setup tends to have a very high success rate as it allows traders to enter strong trending markets after weaker players have been flushed out, only to have real money players reenter the market and push the pair up to new highs.

Strategy Rules

Longs:

  1. Look for a currency pair that is making a 20-day high.
  2. Look for the pair to reverse the same day or next to make a two-day low.
  3. Buy the pair if it takes out the 20-day high within three days of making the two-day low.
  4. Place the initial stop a few pips below the two-day low.
  5. Take profit on half of the position when it moves by the amount risked; move stop on rest to breakeven.
  6. Trail stop on the remainder of the position.

Shorts:

  1. Look for a currency pair that is making a 20-day low.
  2. That day or the next the pair rallies to make a two-day high.
  3. Sell the pair if it trades below the 20-day low within three days of making the two-day high.
  4. Risk up to a few ticks above the two-day high.
  5. Take profit on half of the position when it moves by the amount risked; move stop on rest to breakeven.
  6. Trail stop on the remainder of the position.

Examples

Now take a look at our first example in Figure 14.1. The daily chart of GBPUSD shows the currency pair making a new 20-day high on February 5. At this point, the currency pair is on our radar, and we watch for a new two-day low to be made within the next three days. This occurs right on schedule after which we wait for the currency pair to make a new 20-day high, which occurs on February 12. At the time, we buy GBPUSD a few pips above the previous 20-day high of 1.5352. We enter at 1.5360. The stop is placed a few pips below the original two-day low of 1.5197 (or 1.5190). As the currency pair moves in our favor, we look to exit half of the position when it moves by the amount that we risked, which is 155 pips or 1.5507. The stop on the remainder of the position is moved to breakeven or the initial entry price of 1.5352. This rest of the trade is exited 24 hours later.

GBPUSD daily candlestick chart for January 2015 to May 2015 with arrows labeling the new 20-day high set, new 2-day low, first exit, and breakeven stop triggered.

Figure 14.1 GBPUSD Daily Chart

Source: eSignal

Figure 14.2 provides an example of how the strategy can work in the EURUSD to the short side. On December 23, the currency pair makes a new 20-day low of 1.2165. It goes on radar and we start looking for the currency pair to rebound within the next three days. The recovery occurs the following day, and a new two-day high is made. Then we look for the previous 20-day low to be broken within the following three days and that occurs shortly thereafter. At which point we enter a short EURUSD trade at 1.2155 with a stop at 1.2260, or a few pips above the two-day high of 1.2254. Our risk on the trade is 105 pips. When the currency pair drops to 1.2050, we exit the first half of the position and move the stop on the rest to breakeven. Then we trail the stop using a 2-bar high and end up exiting the remainder of the position at 1.1846.

EURUSD daily candlestick chart from December 2014 to March 2015 with arrows labeling the 2-day high, new 20-day lows, first exit at 1.2050, and second exit at 1.1846.

Figure 14.2 EURUSD Daily Chart

Source: eSignal

The final example shown in Figure 14.3 is in AUDUSD. The currency starts by making a new 20-day low on January 26. It goes on radar and we start looking for the currency pair to rebound within the next three days. The recovery occurs intraday, and a new two-day high is made right on schedule. Then we look for the previous 20-day low to be broken within the following three days it occurs 24 hours after the two-day high is made. At which point we enter a short AUDUSD trade a few pips below the 20-day low at 0.7850 with a stop at 0.8032, or a few pips above the two-day high of 0.8025. Our risk on the trade is 182 pips. When the currency pair drops to 0.7668, we exit the first half of the position and move the stop on the rest to breakeven. The breakeven stop is triggered the very same day that the first target is reached.

AUDUSD daily candlestick chart from January 2015 to April 6, 2015 with arrows labeling the new 20-day lows, 2-day high, and first target hit.

Figure 14.3 AUDUSD Daily Chart

Source: eSignal