TRADERSSTRATEGIES

When Does a Trend Become Real?

Breakouts and Fib Numbers

Many years ago a Fibonacci guru I know was adamant in explaining to me that it was impossible to combine breakout trading with Fibonacci ratios.
However, any breakout simply involves a violation of some price level, doesnt it? A breakout violates a high, a low, support, or resistance, or even an
area of Fibonacci confluence. I am not a great fan of trading Fibonacci ratios, but I am also not a breakout trader. If I had to put a name to what I do, I would
call it momentum trading. I believe the money is made from properly managing momentum. Nevertheless, there are ways to combine breakout trading
with Fibonacci ratios. Just bear in mind that the big bad sharks will be looking for you when you trade with fib numbers. This in part is because you will
find yourself a fish among many when the sharks become hungry for stops.
o What You Need to Know

Anyone who trades, soon finds himself asking the question

How do I know if support or resistance is really broken?.
Put another way, if you are looking at a trend line or a fib
number for support or resistance, how do you know when
prices break through that the breakout is real? After all, was
not support or resistance supposed to hold prices? Were
not prices supposed to bounce off of Fibonacci support or
resistance, giving you an opportunity to trade in the opposite
direction? There is indeed a way to know that support or
resistances has not held, and that prices are continuing in
the direction they were moving!
Is the method 100% accurate? Is anything for certain in
the marketplace? I think not, but there is a very old concept

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that I was taught and it remains among the best I have seen.
I can show you a number of ways to use what I will describe
next, but one way will do for now. Simply stated it is this:
Whenever you have a breakout, you cannot consider it real
until you have confirmation of the breakout.
Whether it is the violation of the number 2 point of a
1-2-3 high or low formation, the violation of a trend line, or
the violation of Fibonacci support/resistance, you must see
confirmation before taking the risk of a trade entry. If you are
using a 1-2-3 low or high, you must see an entire bar move
beyond the number 2 point. If you are using a trend line, you
need to see an entire bar move beyond the trend line, and if
you are using a fib confluence, which is supposed to support
or resist, you have to see an entire price bar move beyond

TRADERSSTRATEGIES

the area of confluence. By entire bar, I mean everything from

high to low of the breakout bar.

F1) Simple Fibonacci Expansion

Confirmation Is Necessary
Now, what about confirmation? So far all we have defined
is the breakout bar itself, i.e., every part of the breakout bar
must be in the clear, having passed the price level of a number
2 point, a trend line, or support or resistance. Confirmation is
seen in that you must have a Close that moves beyond the
high of the breakout bar if prices are moving up and a Close
beyond the low of the breakout bar if prices are moving
down. If these requirements are met, then you probably
have a confirmed breakout (violation). Otherwise, what
youare probably seeing is nothing more than stop running.
This is especially important in keeping you from trading a
false breakout, when using the lines of support or resistance,
or a trend line.
Also depending on your time frame it may take a while to
happen, so patience for the full breakout and confirmation
of the breakout will help you preserve capital. As with all
violations, the larger the time frame from which the breakout
occurs, the more powerful it usually is but the longer you
have to wait.

Euro Example
In the case of the euro chart that follows, we will be looking at
a daily breakout, which will signify the potential continuation

The daily euro chart shows a simple Fibonacci expansion to an area of support. The question is, will the support
hold?
Source www.genesisft.com

of the trend which can be very useful for swing and position
traders. Of course, this same concept can be useful for
intraday trading as well.
What we see is a Fibonacci expansion from 1.4585 down
to 1.3666. (Figure 1) The formula is simple:

July 2010 | www.tradersonline-mag.com

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TRADERSSTRATEGIES
F2) False Breakouts

B-A+C = Fib Expansion area:

(1.4223-1.5148) + 1.4585 = 1.3666

In Figure 2 we see two false breakouts being identified by a failure of prices to follow through with lower Closes
following the breakout bar.
Source: www.genesisft.com

F3) Ross Hook

We can expect support at that level, and indeed, a

range of support was there. Following a brief correction, we
would expect a violation of the low of the 1.3666 bar, and
continuation of the trend. However, it never materialized.
Instead, prices formed an area of consolidation. With the
exception of a single bar, every bar that follows the 1.3666 bar
(29 in all) has some part of itself within the price range of the
1.3666 bar (1.3754-1.3592). This is a true sign of consolidation.
Note: The range of the 1.3666 bar does not defi ne the high
and low of the consolidation. The high and low are defi ned
by the dotted lines.
Without an actual confi rmation bar in place (a Close lower
than the low of the breakout bar), you should not assume
that selling short would probably result in a continuation of
the former trend. But as we can see from Figure 1, the word
probably had a great deal of meaning in this case. Prices
dropped down to form another area of consolidation.
In Figure 2, the confi rmation method truly worked. The
bar following the breakout bar did not Close lower than the
low of the breakout bar. We see the same situation again
on the last two bars. There was a breakout, but the bar
following the breakout failed to Close lower than the low of
the breakout bar.

Abandoning One Method for Another

Figure 3 demonstrates the beginning of a trend using a Ross Hook as a filter.

Source: www.genesisft.com

Joe Ross
Joe Ross, trader, author, and educator is one of the most
eclectic traders in the business. His over five decades in the
markets include position trading of shares, futures, and
options. Ross day trades stock indices, currencies, and forex.
He trades futures spreads and options on stocks, and futures,
and has written books about it all twelve to be exact. Ross
has written countless articles for many trade journals and
magazines and has appeared on TV financial programs, as
well as financial programs on Radio. Moreover, he produces a
trading newsletter called Chart Scan.

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As with all methods, there comes a point at which a trader

must abandon the method in favor of the reality of what is
happening to prices. What we have been looking at is how
to know if a violation of a key price level is real. We have been
looking at support and resistance levels. But there comes
a point at which prices are seen to be clearly trending. The
question is At which point can we identify a trend?.
The so-called Ross Hook can help us here: A Ross
Hook is in place when prices fail to make a new (high) low
following the breakout of any form of consolidation. A
violation of the point of a Ross Hook, establishes a trend.
And every failure to make a new low (in this case) becomes
a subsequent Ross Hook (RH). Lets look at that now.
Following the fi rst Ross Hook we see on the chart (Figure
3), prices began to trend. At each retracement, a new Ross
Hook was formed. A method for entering the market ahead
of a violation of a Ross Hook is called The Traders Trick
Entry. A Ross Hook is one of the formations of the Law of
Charts. The Traders Trick Entry is one way to implement
the Law of Charts formation known as The Ross Hook.

Conclusion
Techniques that are used for breakouts are not the same
techniques you use for trading once prices are trending.
A trader needs an arsenal of tools. The breakout method
discussed in this article deals with breakouts from areas of
support and resistance. For this, I combined breakout trading
with Fibonacci ratios. The most important thing is to wait for
a confi rmation of the breakout. Only then will the breakout
be real. n