A break and retest strategy is a simple trading technique forex traders use involving support and resistance areas. Price moves in ways to break support or resistance areas, then retraces and comes back to retest the same support or resistance area that it had previously broken.
This breaking and retesting is fundamental price behaviour in the forex market. The more you observe price, the more you will notice this pattern happening, on multiple time frames. Therefore, a break and retest setup can provide excellent opportunities to execute trades.
There are limitations and risks, like all trading strategies have, but this technique can potentially get you in prior to a significant price move.
In this article, I will give you what you need to know about this forex break and retest strategy. So that you can understand how it works and make informed decision before using it to trade.
Keep reading to learn more, let’s get started.
Forex Break and Retest Trading Strategy
The idea behind this forex break and retest strategy is to wait for price to break out of an area of support or resistance. Once it does, wait for price to retrace and move back towards the original area of support or resistance. At this point, you should look for clues that price will bounce off the old support or resistance area and resume moving in the original direction.
The image above shows an example of a break and retest of an area that held as support and turned resistance. An opportunity to trade short exists on the retest, anticipating a price move to the downside.
Here is another example; the image below illustrates a break and retest of a resistance area. An opportunity to buy exists when resistance is retested and turns in to support.
This should be simple enough to understand but let’s dissect this trading technique so you can better understand how to trade it. Furthermore, I will provide some information about where you could place a stop loss.
Learn what a break and retest is in forex trading
Support and resistance are areas on a chart where prices reversed course in the past. Price was either supported from going lower or resisted from going higher. These areas can be found easily enough by identifying recent swing highs and lows.
A support area is an area on the chart which historically has caused price to bounce off its lows. A resistance area is an area on the chart which historically has caused price to reverse its direction from higher prices. The more times price reaches a support or resistance area, the more significant it is. However, support and resistance areas will eventually break if they are repeatedly tested.
What is the break?
A break happens when price breaks through a key level of support or resistance convincingly. You will know when this happens; it should be obvious. There will be a clear gap, or several candlesticks between the current price and the support or resistance area. Some traders trade the break but this can all too often result in a false signal. It might be better to wait for the retest.
What is the retest?
Price action then pulls back to the broken level resulting in a retest. The retest itself may or may not bounce off the level but it does provide another opportunity to trade the break. You should pay close attention when price retraces and approaches the broken support or resistance level for a signal to trade.
The idea of trading the break and retest is not a new strategy in Forex trading; many traders use it as part of their trading method. So let’s look at some ways how you can trade this forex break and retest strategy.
How to trade break and retest of support and resistance
In order to trade this forex break and retest strategy, you need to identify key support and resistance levels on your charts. Ideally, you want to identify multiple support and resistance levels because if you have an idea where price is likely to reverse back to, then you can potentially place several trades around those reversal points.
The break and retest setup can be used in trending or during ranging market conditions. The technique doesn’t change but the volatility and price moment can, resulting in explosive price movements or quick scalps. With that said, it is important to note that it works best during trending market conditions. You will have to make some slight adjustments when price is ranging.
In trending markets, price typically moves upwards or downwards in a sort of stepping action. Market structure is created by way of floors and ceilings as prices bounce and break the levels and moves from one level to the next.
Sometimes, price will retrace deeper, close to the point of origin. The more support and resistance levels you have on your charts, the more potential trading opportunities you will have. However, not all of them will hold during the retest and you need to account for false signals.
This forex break and retest strategy is simple and easy to understand but you need to know when to trade. It can get very tricky during ranging and choppy market conditions.
When to trade break and retests?
During ranging market conditions, the key here to look for breakouts from consolidation zones and then wait for a pullback. When price pulls back, it should retest the broken level of the consolidation area. You should look to enter the market on the successful retest of the broken level.
The good news is a forex break and retest strategy provides clear entry signals, which makes looking for opportunities to trade easier. As price approaches the broken level, you can either enter at market with a tight stop loss or drill down a time frame looking for a candlestick pattern for confirmation.
What are the limitations and risks to this strategy?
This strategy can be used in any market, on any time frame. At the very least, it only requires the use of price action and support or resistance areas. With that said, it does have its limitations and risks.
Sometimes, you will find that there was no actual retest of the broken level soon after they occur. You will wait for the correction after the break but instead, price just keeps going. In this case, price may revisit the broken level at a later date but if you didn’t enter on the break, you could miss some good opportunities. If you want to take advantage of this strategy, you need to be patient enough to wait for the retest to happen.
Another risk is that the price does not go far enough after a retest for you to be able to get out with a decent profit. Everything could look good but price turns and breaks through the retested level and trades towards your stop loss.
Conclusion
Overall, a break and retest strategy is a viable one, but it comes with its own limitations and risks. Like all trading strategies, it should be tested thoroughly before making your own conclusions about making it a staple part of your trading method.
