Often, one of the first trading scenarios and potential trade setups that a trader is introduced to is the range breakout. This is possibly because a range is easy to spot and knowing when to enter is relatively easy – when the price moves outside the range. There are likely many reasons people trade range breakouts. One may be the belief that range breakouts can provide extraordinary returns as the tradable is launched out of its holding pattern. Regardless of the reason, trading range breakouts is an unprofitable endeavor for most novice traders, and this article will explain three reasons why. Two alternative strategies will also be looked at. (For background reading, see our Technical Analysis Tutorial.)
According to Charles Kirkpatrick and Julie R. Dahlquist ("Technical Analysis: The Complete Resource for Financial Market Technicians," 2007), roughly half of breakouts that occur from trading ranges retrace back to the breakout point before continuing in the original breakout direction. Combine this by the high rate of false breakouts and most novice traders lose money on the gyrations and end up missing the big move when it occurs.
Traditional technical analysis methods use a profit target that is equal to the height of the range (resistance-support) added or subtracted from the breakout price. This profit target is a reasonable for many range breakouts.
For most novice traders, trading range breakouts will be a losing strategy: false breakouts will result in losses, corrections will fake traders out of legitimate moves, and explosive gains are rare considering the many potential ranges available to trade. But while a range breakout may be difficult to trade profitably for many traders, there are alternatives using the same chart pattern, but give the trader a better chance at success.
Ultimately the trader must give up the desire to get in at the very start of a potential move. If a breakout is going to happen, it will occur and it will be plainly visible on the charts after some time has passed. This is where the trader can put the odds in their favor.
Both of these methods greatly reduce the chance that the trader will be stuck in a false breakout. Once the breakout has occurred and made its first move, it is easier to step in at that point than it is to jump in right at the level that many other traders are watching. Patience will allow the tradable to make its move and reveal whether the breakout has occurred or not. At this point, the trader can move into a trade to capture the trend which now appears to be underway, or likely to emerge.
Ranges are easy to spot, making the range breakout strategy very popular. Yet many traders lose money on this strategy, mainly because of false breakouts, corrections to the breakout point and unrealistic expectations. Strategies that are likely to provide traders with more success involve being patient and waiting for the breakout to happen, then trading the trend if it occurs, or waiting for a correction and seeing if the price resumes the breakout direction. (For more, check out Identifying Trending & Range-Bound Currencies.)