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Trading Breakouts/Breakdowns

Our major gamma levels and cycles tend to play out most of the time as the market spends 70% of its time in a range-bound/mean-reverting state. However, 30% of the time, the market is experiencing a directional move. In these conditions, there is little to no ‘mean reversion,’ which can keep the market overbought or oversold and can continue to break levels one after another.


In this post, we will discuss how to enter a breakout/breakdown trade.


As we know, being in an overbought (cycle high) or oversold (cycle low) condition does not automatically imply a buy or sell signal; rather, it must be used in tandem with our Gamma levels. Additionally, we must keep the broader context in mind. 


For example, if the market is experiencing a strong trend, we may not want to short at the cycle high but rather wait for a 5M cycle low and enter on the backtest of a Gamma level or drop the timeframe to the 1M to enter the uptrend.



Unless there are squeeze dynamics at play, the majority of the time, we will have at least one 5M cycle setup to enter the trend, which is the ideal entry. However, this setup may not come, or you may have missed the setup and are trying to enter the trend. In this case, you can drop to the 1M timeframe to seek entry opportunities or play a potential breakout/breakdown.


A breakout/breakdown is where you enter when price breaks through a significant level, such as a support or resistance level, anticipating trend continuation. Generally, this is a tough approach, as we previously highlighted: 70% of the time, the market is ‘mean-reverting,’ meaning breakouts/breakdowns tend to fail more often than they succeed. While the overall win rate may be low, many traders like these setups due to the potential for high gains.


Prior to playing a breakout/breakdown, you must define the level. Ideally, this is some level of significance, such as a major gamma level like a whole number (4800, 4900, 4950, etc.). A successful break of a major level often results in a strong directional move, whereas levels of lower significance generally have a higher win rate but with lower velocity.


Additionally, the more times a level is tested, the more prone it is to breakout/breakdown, so it’s important to consider the historical behavior of a level when identifying the potential breakout/breakdown level.


Regardless of the significance of the level or how many times it has been previously tested, if it breaks and holds, our assumption is that the price will move to the next gamma support or resistance level.


There are three ways to enter the breakout/breakdown.
  1. Enter on the break of the level: This is a risky approach as you could get caught in a false break scenario (highest risk approach).

  2. Enter on the backtest of the level: This is generally the better approach as it confirms that the once resistance is now support or vice versa (lower risk approach).

  3. Enter prior to the break of the level: This involves the intention to play a move into the level and participate in the breakout/breakdown if it occurs (lowest risk approach).


Entering prior to or utilizing the backtest method is where our 5M or the 1M cycle comes into play; this can be used to time the entry.


Let’s look at an example,

On Friday, February 2, 2024 the SPX broke the previous all-time high (ATH) of 4930, a resistance level that has been tested multiple times. 



All three methods of playing the breakout were successful as the breakout itself was successful.


The first entry was on the 1M cycle low off 4915 gamma support. This was entering prior to the breakout. 


The second entry was on the break of 4930 at 1M cycle high.


The third entry was on the backtest of 4930 at 1M cycle low.



Once 4930 was broken, the upside trade technically remains valid as long as 4930 (former resistance) holds as support. The expectation is for the market to move to the next gamma level, which is 4950. A breakout of 4950 assumes continuation to the next gamma level at 4965/4970 and so on. 


In terms of options strategies, one could enter a put credit spread below 4930, enter upside calls or an upside butterfly utilizing our pin idea overhead, in this case 4960 VP (which pinned!). If the breakout/breakdown is successful, all strategies should be profitable.


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