For many traders who use technical analysis in their Forex trading platforms a breakdown of an important level is a signal to enter the market. Unfortunately, very often such a breakdown is false, and after reaching a top point the price comes back by just trying the level. Such situations bring traders losses and disappointments of the trading system they are using.
To avoid false signals, it is necessary to understand what a false breakdown is, how it differs from a true breakdown and how it can be determined. False breakout is a temporary price movement, in which it breaks an important technical level, after which it begins to move in the opposite direction of this level. During a true breakthrough price will not be returned to a broken level and continues its movement.
The reason of a false breakout, in general, is the uncertainty of bulls and bears in forming a trend. In the area within the critical levels, they behave chaotically, so the market may have short-term movements up and down that mislead many traders. In the small time-frames this behavior may often show false breakouts due to some speculative movements of the investors.
There are few ways to determine a false breakout. By monitoring trading volumes, you can see the relationship between a volume growth and success of the breakout. If in the Forex market a demand for the currency is higher than supply, and at this time a breakthrough of a level takes place, the probability of success of such a breakthrough is very high.
However, the lack of access to the volume of the Forex market in their Forex trading platforms deprives many traders the opportunity to follow the breakouts this way. In this case to calculate a false breakdown it is better to use a technical analysis. To confirm the breakout a closing price of the daily candle should be below the level (in case of falling), and above the broken level (in case of growing).
Tracking the divergences is another way to identify false breakouts. If the price breaks a support level, but on the indicator, eg, MACD you see a bullish divergence, such a breakthrough is likely to be false. If the price breaks the resistance level, and the indicator shows a bearish divergence, this breakthrough is better not to use for entering the market as well.
And the most important thing that should not be forgotten is that trading in Forex market requires a good risk management. Proper risk management will help you stay in the market even during the most uncertain situations and maintain a self control while other traders will spontaneously open losing positions.