What is Breakout Confirmation and Do You Need It?
The Breakout Confirmation Theory
The theory behind a breakout confirmation is that you are waiting for something to happen to ‘confirm’ that the breakout is valid. That something is usually a candle close on the timeframe you are trading.
Check out EURUSD.
Waiting for confirmation in this case would be waiting for a daily close above the breakout level of 1.11.
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Not waiting for breakout confirmation would be taking the trade as soon as price traded above 1.11 intraday.
Ok, so where does this leave us?
Like a load of things in trading, there’s really no right or wrong, BUT context is key.
What do I mean?
No two breakouts are the same.
Let me show you: (Disclaimer, I’m properly cherry-picking examples here to prove a point, normally I’ll show the most recent example I can, and if it’s not perfect then so be it, that’s trading.)
Check out this 2-hour chart on GOLD
A real dull multi-week range:
If you’re thinking of taking a breakout, waiting for some kind of confirmation makes sense to me.
Price has a recent history of being in a range, fakeouts are common.
You don’t mind being late to the party in exchange for some more evidence that this time price really wants to move.
So, you might wait for a daily close outside of the range and then an optional pullback.
This would be the type of play where waiting for confirmation is reasonable.
Let’s look at another polar opposite breakout. (And this is why context is so important.)
There’s been a big sentiment shift. It’s a Friday. Price is bear flagging below the intraday low after an aggressive down move. I don’t believe you need confirmation here…
Context is totally different to the Gold trade (and yes I appreciate the Gold was a different timeframe, but the concept is the same.)
The clues are there. If you start waiting for confirmation the RvR structure of the trade changes massively.
Let’s say you were targeting 3:1 RvR and you placed a stop above that flag high. (Reasonable stop placement.) If you took the short on the break this is how the trade would look.
VS if you took the short after waiting for the candle close with the same stop.
In the last example, using a 3:1 target was asking a lot more from the market. The further you want the market to go intraday the less likely that is to happen.
So you really want to be able to structure a trade that has a tighter structured stop. Because that allows you to make more from a small favourable move.
- Context is important
- What has price done before the breakout?
- What clues can you glean from the price action to determine the probability of this being a breakout?
Understanding context and current conditions is your main job as a trader. And yes it’s a skill to develop over time.
Do you sacrifice price to wait for more confirmation or do you assign a high probability to the breakout happening and get the best price you can?
(BTW when you give the breakout a really high probability of occurring you can start to get positioned well before the break… But that’s for another day)
Context, context, context!