Any trader which has experience with trading price action has been burnt at least once by a fakeout. Fakeout is a fake breakout – meaning that price breaks a limit (support or resistance level), just to come back to its original direction. Any traders who have entered the trade at the breakout end up losing money.
We can use various Forex indicators to avoid and spot fakeouts hours before they occur. This way you save precious pips from being wasted trading those traps.
The first Forex indicator that can be used to avoid fakeouts is the volume indicator. The volume towards a breakout should be rising and in an uptrend. Take a look at the volume before the breakout, if it is not rising it is a sign that the breakout is not real and may very well turn out to be a fakeout
Another indicator that we will use to see if a breakout is real is the Momentum Indicator. The momentum indicator gives us great insight regarding the velocity of price and its trend. We will take a look at the momentum of price and if it is rising it will be a sign that the breakout is real.
If the momentum is not rising or it is negative it is a sign that the breakout is not real.
We will also look at divergence between the momentum and the price. If momentum creates a divergence opposite to the trend of the breakout it is a bad sign that the breakout will not occur, and if it break – it will be a fake one.
Last indicator we will take a look at is the Simple Moving Average of 20-period. If it is not trending (flat) it is a sign that the trend is not strong and a range is likely to take place. On the other hand, if it trends strongly and its angel is strong it is a sign that the trend is strong and a real breakout is about to take place.
The angle of the SMA is similar in its calculation to the Momentum indicator, so their results can be similar. We recommend using several indicators in your analysis so you confirm the trades from several angles and your signals will be more accurate.
Generally, we will avoid trading breakouts as they are highly unreliable and can get you a lot of failed entries. If you want to maximize your profits, trade only the pullbacks and you will get much more accurate entry points that has much higher win rate. The win rate of pullbacks is about 30% higher than the regular breakout one.
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