Learn How to Trade Profitably

By John Pontikas and Brian Dibbins

Chapter Twenty One

The 1-2-3 Breakout Trading System

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This chapter provides you with a complete 123 breakout trading system that you can back test and paper trade yourself to see how it works on your favourite market. It provides you with both entry and exit signals to trade either long or short.

The 1-2-3 Breakout System

Reminder: this material is subject to a disclaimer and risk warning, and should not be read in isolation.

THE CHART

Candlesticks

• Simple moving average of the pivot (the High + Low + Close divided by 3) set at 1
• Exponential Moving Average (EMA) of the pivot, set at 21 (20.83 rounded to 21)

MOVING AVERAGE

The simple moving average of the pivot helps us to identify the peaks and troughs.  When the candles are trading above the 21 EMA, this constitutes a bullish sign. When the candles are trading below the 21 EMA, this constitutes a bearish sign.

LONG ENTRIES

As we have mentioned, stocks and markets tend to move in waves.  The main objective of the 1-2-3 breakout system is to identify firstly the overall direction of the stock/market, then secondly to identify a high probability entry.  For long entries, the point 3 must not be lower than the point 1

As the peaks and troughs are created, we set an entry, 1 point or cent (depending what market we are trading) above the last peak.  We do not have to wait for a confirmation bar with this strategy, because we want to capture the movement as it is happening.  For this strategy, we do not wait until the last 15mins of the trading session to enter the trade, as we do not require a confirmation candle, nor to be in front of the computer the whole day. For example, a conditional order may be placed with a broker to enter long if that entry price is reached.

With this system we are entering long just as the stock/market has made an up trending directional movement, eg, there must be a low (point 1), a high (point 2), then a higher low (point 3), followed by a higher high (the entry) in order to make a 1-2-3 breakout.

Figure 21.1: 1-2-3 Breakout System - long entry

LONG EXITS

We set the initial stop loss one point/cent below the last trough prior to our entry. As the stock/market continues to form waves, we implement a trailing stop one point/cent below every trough, until we get knocked out. This way we maximise our profits and minimise our losses.

Figure 21.2: 1-2-3 Breakout System - long exit

SHORT ENTRIES

Once we have identified that the market is shorting and the candlesticks are below the 21 EMA, we set an entry 1 point or cent (depending what market we are trading) below the last trough. We do not have to wait for a confirmation bar with this strategy, because we want to capture the movement as it is happening.

With this system we are entering short just as the stock/market has made a down trending directional movement, eg, there must be a high (point 1), a low (point 2), then a lower high (point 3), followed by a lower low (the entry) in order to make a 1-2-3 breakout. For short entries, the point 3 must not be higher than the point 1

Figure 21.3: 1-2-3 Breakout System - short entry

SHORT EXITS

We set the initial stop loss one point/cent above the last peak prior to our entry. As the stock/market continues to form waves, we implement a trailing stop one point/cent above every peak, until we get knocked out. This way we maximise our profits and minimise our losses.

Figure 21.4: 1-2-3 Breakout System - short exit