Breaks in a price trend mean the price is now going to reverse. Suppose the price is moving in a bullish way making high tops and high bottoms, but we know that at some point the things will turn and the price will start showing a bearish trend. Experienced traders are always in a look out for this break point as opening a position at this point yields maximum profit. This is also called pattern reverse.
Although not scientific, there is a way to identify these break points. Many beginners in trading loose because they take just a little opposite price movement as a break which is not true as while trading the whole area is considered instead of a trending line.
Let us learn to identify the break points with an example. Basically, to find out the break point we need to learn to confirm the trend reversal. The following image shows four points which you need to analyze to confirm the reversal as well as the break point:
I am going to explain these four points individually:
- At this first point, the bullish trend was broken when the trendline cuts the candle.
- At this point, the price has made a new low when is quite lower when compared to the previous price data. At this lowest point, we draw a horizontal support line. This is the first signal of a reversal.
- Now the price again takes a ‘u’ turn and at this point, it again reverses. Not that the point of reversal is lower than the trendline. The price should not go beyond the trend line as we consider an area instead of just a line.
- This point is the final confirmation of a price break. This is because the price has broken the horizontal support red line. At this point, you can open a position.
Many experienced, or you can call risk taking, traders even open the position at point 3 due to higher profit margins. But as a beginner, you should play safe.
Everything reverses when trading in a bearish trend.
Let us take an example to understand the break and reverse better. Consider the following chart of the currency pair GBP/USD:
This is the same chart we used in the last example, but this time we are going to analyze the area after the broken trendline.
- At this point, the bullish trend cuts the red candle body which indicated that the price has already broken the trendline. This is the first signal.
- Now, at the second point, the price has decreased to such an extent that it created a new bottom. Here a horizontal line is drawn.
- At this point, a resistance is created, but it is already below the trendline which is again a signal of a price reversal. Many experienced and aggressive traders are always in a look out for this point.
- This is the final confirmation of a price reversal and the break point to open the position as the horizontal line is now cutting through the red candle.
Trendline trading strategy is highly accurate and yields a lot of profit if done properly. However, you have to practice a lot to master this strategy. It is recommended to do your practice using a demo account.