Joined Nov 11, 2007
1,458 Blog Posts

What Makes a Breakout a Great Breakout?

In order to backtest a breakout system, I need to be able to rank each day’s breakouts so that when the system has cash available for a new position, it takes only the top-ranked stocks. I have my suspicions about what makes a great breakout, but I’m curious as to what other traders believe.

As I begin backtesting breakouts, I’ll cycle through the factors represented in the poll to see whether the crowd gets it right, or not. If there are other factors that can be used to rank breakouts, I’d love to hear about them in the comments. I can add them to the backtesting.

[polldaddy poll=4588227]

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The Secret to Trading Breakouts…

In contrast to more obscure patterns, breakouts can be easy to find. There are various online resources, and even traders with no programming experience or fancy scanning software can get evening breakout reports from sites like Top Breakout Stocks. (Great site, by the way.)

Like many traders, I got started trading breakouts after discovering William O’Neil and Investor’s Business Daily. It wasn’t long before I realized that trading breakouts was hit and miss. What O’Neil used to preach (not sure if he still does) about needing to cut losses at -8% and taking profits at +20% was very important because many breakouts fail. If your first 3 breakouts fail and you lose -8% each, your 4th breakout needs to be a successful trade with a gain of more than +25% in order to get back to break-even. In short, breakout trading tends to have low win rates (around 40% or so), and this makes trading them very difficult, in my opinion.

Breakout trading is complex enough that sites featuring breakouts seldom discuss sell signals, only entries. In fact, I don’t recall ever seeing a web site that publishes sell signals for open breakout trades. I’m not saying they don’t exist; they just aren’t very common.

Why is it that we don’t often hear about the exit strategy when trading breakouts? The answer is simple…

When trading breakouts, you will not be profitable without a robust exit strategy. The secret to trading breakouts is the exit…

I have dabbled with designing breakout systems over the years, and have always given up on them. I am currently dabbling again. Here are some setups for tomorrow. The entry setup has several requirements. A simple exit that will work for these is a 10 day time stop coupled with a 15% profit stop.

I will update the blog over the coming weeks and months as I work towards a robust breakout system.













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This Market is Boring as Hell

There, I said it.

I’ve been thinking this for a month or more. I didn’t want to say anything for fear I’d jinx myself. After all, my YTD is better than The Fly’s (a first in over 4 years of working with him). What the hell? Trading this market has been like playing in a casino where the house loses 70% of the time.

It doesn’t matter whether one trades mean reversion, trendfollowing plays, or breakouts: Everything has been working in this market. Except for shorting, of course.

This market has been so easy and so boring that I’ve run out of things to research about it. What more can I say about a market that has been on a 45 degree trajectory for the past 5 months? What more can I say about a market that continues to make higher highs, and higher lows? People get tired of reading about the new latest record that is being set by the SPY.

I spent a couple of weeks a month ago trying to find something bearish to write about. I was able to generate one bearish study. Everything else has been bullish. In the comments section of the bullish studies, crickets. Chirp, chirp. Perhaps everyone else is bored as well, or everyone else is pissed off that they’ve been doubting this rally and have not had enough exposure, or worse, has been trying to short it.

It is always important to follow a clear set of trading rules. It is always important to be disciplined. A mistake that I suspect is made by many traders is to only follow rules when the market is volatile, choppy, or generally challenging. “Hey, this market is a bitch. I better follow my rules!” A boring market can lull traders into thinking that rules are not as important, or even unnecessary. Consequently, they make an easy market into a hard market by trading the market they want to see rather than trading the market they have. To put it another way, the market can stay boring a lot longer than you can stay rational. Rules keep us rational, in both challenging and easy markets. While it is easy to rationalize under-performance in a challenging market, it is much less easy to do the same in an easy market.

My suspicion is that rule-based traders and even disciplined discretionary traders will have had an awesome few months or more. I suspect that those without rules and discipline have been tripping over their own biases, second guessing themselves, and generally trading against the best bull market since 1995.

This market IS boring. It should FEEL boring to trade it. If it isn’t boring and trading it has not felt like second-nature, then something might be wrong.

Until we see a lower high and lower low, enjoy the boredom.

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Golden Honey

Look who has dropped by the ol’ Honey Hole…

The more I read about the current government and the history of past governments, the more I want to own Gold. I love America, but I have little faith that our government will not repeat the mistakes of past governments.

I’m watching GLD here to see how it responds to the 50 day average. This setup is typically bearish.

I want to get some GLD in a retirement account, but I’m not willing to buy it right here. What I want to see is a few strong closes above the 50 day average, or more weakness. Some strong closes here will tell me that the fear/inflation trade is still strong, while some weakness will likely mean that there will be a longer period of consolidation before GLD goes higher.

For those who are interested in owning the metals, Jake Gint is your go-to analyst.

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Honey Hole Jamboree

Here is the recent conversation I had with myself about market pullbacks.

Q: Why is the market going to pullback?

A: Because that is what markets do.

Q: When is the market going to pullback?

A: Soon.

Q: How do I know the market will pullback soon?

A: See the answer to the first question.

Below is a chart that I use nightly as a frame of reference. I drew the trendlines months ago, but Tradestation extends them automatically.

Click on the chart to enlarge…

Note the 45 degree angle trendline. The market has been oscillating around this line for months.

I’m not looking for a -10% decline here. But -1% or more seems reasonable. Thus, we want to look for stocks that are in new downtrends after previous huge run-ups. And, we want these stocks to be beneath major moving averages, and we want them to have recently surged. With that in mind, here are tonight’s honey holes. Try not to gorge yourselves.






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My March Madness Victory is Assured

Don’t forget to register for iBC/RC’s March Madness stock-picking tournament.

My pick is superior and will surely surpass your picks. I have it on good faith that the elderly across the globe are ready and able to rip out catheters, eat lower-grade meals, and change their own diapers for a month, all to ensure my victory.

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Power Dip System Year-to-Date Results

PDS performance Year-to-Date by model:

10% of Equity per Trade

Net % Profit: 6.51%

Annualized: 80.38%

Average Trade: 1.27%

Winning %: 72.55%


20% of Equity per Trade

Net % Profit: 9.99%

Annualized: 143.85%

Average Trade: 1.88%

Winning %: 73.08%


ATR Position Sizing

Net % Profit: 10.07%

Annualized: 145.48%

Average Trade: 1.59%

Winning %: 73.53%

.01/share was included for commissions.

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