Fading false breakout

This strategy is specifically designed for the euro/U.S. dollar (EUR/USD) currency pair. The plan is to enter a sell order above the market, in order to fade a move higher, and at the same time enter a buy order beneath the market, to trade against a move lower. In both cases we are assuming

that any directional movement is false, and the exchange rate is likely to retrace.

Such a directional move is likely to be caused by a large order, which would not have the power to move the market under normal circumstances. Since the volume is extremely low at this time of day, these orders now have the ability to create market movement under “thin” trading

conditions.

Setting

The sell order will be located 15 pips above the “opening” price, and the buy order 15 pips below. Our stops will be located 15 pips away, creating a risk/reward ratio of 1:1 for the trade (one pip of risk per one pip of potential reward).

Since this trade is only designed for only one currency pair, the EUR/USD pair, we can set fixed-pip parameters. If this technique were at tempted with any other currency pair, the parameters would have to be adjusted to account for the difference in volatility.

The trader would also have to consider that the spread for most currency pairs is wider than EUR/USD. Because the “playing field” for this trade will be small, every pip takes on added importance.

This is a brief, “slingshot”-style trade that is designed for quick profits, perfect for EUR/USD. This pair tends to have a very narrow spread, making it ideal for a short-term trade.

Entire the trade: fading false breakout

Let’s take a look at this concept in action. At 17:00 Eastern U.S. time, the openingpriceonthefive-minuteEUR/USDchartis1.2583(seeFigure1).

We’ll place a sell order 15 pips above the opening price at 1.2598, and a buy order 15 pips below the open at 1.2568.

If we do not have a trade execution within two hours, we will cancel both the buy and sell orders. At that point, the reason for placing the trade is no longer valid, because the Asian markets are beginning to stir, and volume and volatility are about to increase. When real volume enters the market, the moves are more likely to be real, so a strategy that fades breakouts would be inappropriate under these circumstances.

After initially drifting higher, the exchange rate drops, and the buy order is executed at 1.2568 (see Figure 2). Our stop is located 15 pips below the entry point, at 1.2553. This is very important we immediately cancel the sell order at 1.2598. Our target will be a modest return to the

opening price, or 1.2583.

Within a few hours, the exchange rate aimlessly drifts toward the exit point of 1.2583, and the trade is completed (see Figure 3). The trader has the option of exiting the entire position, or closing a portion of the trade and moving the stop to the breakeven point.

The EUR/USD “opens” at 1.2583; the buy order is executed at

1.2568

The entry point of 1.2583 is also the exit point.

The exchange rate reaches the exit point of 1.2583.