Trading Breakouts of Historical Highs: Strategy and Techniques
Many people hesitate to buy an asset trading at its all-time high, fearing the market might soon reverse, leaving them buying at the peak. However, trading breakouts of historical highs can be a valid and profitable strategy. In this article, we will explore how this strategy works, the technical concepts involved, and practical examples to demonstrate its effectiveness.
Why Buying at Historical Highs Makes Sense?
The idea of buying an asset at its historical high may seem counterintuitive. After all, you’re purchasing at its highest recorded price. However, technically, this can be advantageous for several reasons:
1. Absence of Resistance Levels:
When an asset reaches its historical high, there are no previous resistance levels ahead. This means the price has a clear path to rise, with few technical barriers to hinder its advance.
2. Uptrend Continuation:
According to Dow Theory, a market in an uptrend tends to continue rising until a reversal is confirmed. Therefore, a breakout of a historical high often indicates the continuation of this trend.
How to Trade the Breakout of Historical Highs
There are specific techniques for effectively trading breakouts of historical highs. Let’s explore some using graphical examples:
Example with NVidia Stocks
Imagine NVidia stocks are trading at their historical high of $140. Many traders make the mistake of placing a buy order just above this level, for instance, at $141. This can lead to losses, especially if the price briefly breaches the historical high and then falls back.
The correct approach is to wait for the price to touch or approach the historical high, correct, and then breakout. This provides a safer entry point and a cheaper stop loss.
Literature References
Marcio Noronha, a renowned Brazilian technical analyst, explains in his book that when an asset breaks its historical high, it behaves like a rocket breaking free from Earth’s gravity and entering vacuum, encountering no resistance ahead. This effectively illustrates that after breaking the historical high, the price has a freer path to rise.
Practical Strategies
1. Avoid Direct Stop Buy Orders Above the High:
Placing a buy order just above the historical high can result in losses. Wait for the price to touch or approach the historical high, correct, and then breakout.
2. Use Fibonacci for Target Setting:
In situations of historical highs where there are no previous resistances, Fibonacci projection can be essential for setting profit targets. For example, project 100% of the previous impulse to find a potential profit-taking point.
Practical Example
In the case of Nvidia stocks, $140 was the historical high. The price touches this high, corrects slightly, and then approaches again for the breakout. In this case, you can place a buy order when the price breaks the historical high after the correction. Your stop loss should be just below the correction point to minimize risk.
Conclusion
Trading breakouts of historical highs can be a profitable strategy when executed correctly. By avoiding direct stop buy orders above the high, waiting for corrections, and using Fibonacci projections, you can increase your chances of success. Remember to analyze the overall market context and apply these techniques with discipline and patience.