In the below chart, a breakout in this silver ETF occurred when shares made a sustained move above $30, signaling a buy.

 

The rationale for this strategy is simple: If support and resistance levels act as barriers to share price movement, then the breach of a previous support or resistance level should leave shares free to make a larger move.

That’s a pretty logical approach to trading. Here's another way to think about it: If a resistance level indicates a glut of supply of shares of a stock at a particular price overhead, then a breakout above that price level should mean that buyers have absorbed the excess supply above, and now those sellers are adjusting their ask prices to higher levels (or opting not to sell at all). That clears the way for shares to get bid up to higher prices.

That's the theoretical side of things. As I said earlier, in practice, there are significant challenges to being a successful breakout trader.

Challenges of Breakout Trading

The biggest challenges for would-be breakout traders are psychological -- particularly for investors with fundamental value backgrounds. For upward breakouts, waiting for a stock to move higher before buying can feel incredibly unnatural for an experienced value investor. And staying in the game after a string of losing trades can wear away at the confidence of even the most experienced trader.

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