4H Breakout System

The 4H breakout system is designed for traders like me who don’t wish to spend all day long in front of their
monitor. Once Mastered this system will reward you for the rest of your trading career.

This is trend following system using a breakout entry formation that usually has great results. Although I mainly use this system on the 4 hour charts it works equally as well on 1 hour charts and daily charts.

This method can be traded on any pair at all. I watch around 10 pairs to look for setups. If you are planning on trading this many pairs it is very important that you keep in mind the correlation of each pair, for example you do not want to have a long position on the EURUSD and USDCHF as these pairs are strongly  correlated so all you are really doing is doubling up on your position. 

Note: correlation means that the pairs move in ether the same direction or the exact opposite.

Setting up your charts

Lets start by setting up your chart of your favorite pair, mine is the EURUSD, open the chart and add the following exponential moving averages.

30 (green)
150 (orange)
200 (blue)
365 (red)

This is the basis for all the entries in this system, you will not need to change your chart at all from now on.

30ema

The 30ema is the trend indicator, when price is in a good trend it tends to pull back to the 30ema and move away, the 30ema must be sloping up or down before we make any trades.

150, 200 & 365ema

The 150, 200 and 365ema act as super strong dynamic support and resistance. Go ahead and look at them on your chart and you will see how price bounce's off these lines more often than not. You will often get a breakout formation after price has bounced off of one of these moving averages. They are also very useful as target areas for profit taking on open positions.

Your chart should now look like the one below, you can use any colors you wish for the moving averages but I will stick to these colors for demonstration purposes. (Notice how price bounced off of the green 30ema!)

Trading Breakouts

If you are felling a little overwhelmed by the first system in this package then take a break and come back later with a fresh mind. There is nothing worse that trying to learn it all at once only to become frustrated because it doesn’t make sense.

Trading breakouts is one of my favorite trading techniques of all. You will find after trading this system for several trades that you will easily begin to spot the trades with no momentum and close them with a small loss instead of letting the trades run into your stop loss. The name of the game is to have wins larger than your losses.

As I said earlier I watch 8-10 pairs for setups, this provides me with plenty of entries so I can take only the very best ones. Trading with the trend already places the odds in your favor all you need then is a place to enter into the market with high odds of encountering little draw down.

Consolidations and breakouts happen all the time in trends and are perfect high probability places to enter into the market. The most common way to enter with a break out is right on the break of support/resistance, however if you have ever tried this then you know it is very hit and miss. The Majority of the time you will get false breakouts which take out your stop and leave you wondering why you entered into the market in the first place.

This is the fools way to get into the market, what you need is a place of low risk high reward, read on and discover one of the best techniques I know of. There are 2 types of breakouts that I trade one is more reliable than the other, it is up to you if you choose to trade both or not. 

The first is a trend line breakout see diagram below for example.

As you can see price is in a up trend and formed a trend line against the trend. Price then broke out and retraced back to the trend line giving us a fantastic opportunity to buy In the direction of the trend.

The second and more reliable setup is a double top/bottom breakout see diagram below

In this diagram price is in an up trend and formed a double top against the trend. Price then broke out and retraced back to the trend line giving us a fantastic opportunity to buy in the direction of the trend. I find this setup on average more profitable than the previous.

System rules

Let's run through the simple rules of this entry technique and then look at some trade examples.

1. Monitor your pairs for an obvious up/down trend (check the 30ema for slope direction).
2. Once you have a trend in place look for consolidations, support in a down trend and resistance in an up trend.
3. Wait for a break of the consolidation, this is usually in the form of a large bar indicating volume.
4. Watch for a retrace back to the support/resistance line that was just broken (sometimes it may happen fast so keep an eye on the lower timeframes if you can).
5. If you get a retrace enter on the touch of the support/resistance line that was just broken (you can use pending orders if you are not able to be at you pc).
6. Place your stop well behind the support/resistance line.
7. Move your stop to break even after you are in profit by the same amount you risked.
8. Stops can be trailed by a pip amount or trailed manually behind bar lows in a up trend and bar highs in a down trend.

The first thing we need to know is if price is in an up trend, down trend or going side ways. The gauging of the trend direction is not mechanical, you need to look at the overall picture, stick to the 4 hour chart and just look to see where price is in relation to the 30ema.

The 30ema is where price tends to be around on a breakout.

Trade Examples

Lets look at a 4H chart of the EURUSD so I can explain a little further.

As you can see the above chart is in a clear up trend, price is moving away from the 30ema and staying above it most of the time indicating a strong trend. Once we have a clear picture of the trend direction we look at support/resistance areas for consolidation, this can be trend lines or horizontal lines for double tops/bottoms.

If you are not familiar with trend lines and support and resistance then please do a quick search on Google, you will have plenty of reading on the subject too keep you busy for hours.

Look at the bottom red line on the chart above, this is the resistance created at the double top. After many attempts price finally made a break of the double top and we had ourselves a trade opportunity. Sometimes you will have to take the trade on a lower time frame as the retrace is too fast to notice properly on a 4H chart. 

Lets see the 30M chart of the trade above.

The chart above is still the same trade as the previous chart except now we have moved to the 30M timeframe. Normally I would not have bothered to do this, I would have taken the trade from the 4H chart however it is simply easier for you to see the retrace on this particular trade.

Not long after the break there was a retrace back to the resistance line which has now become support at the red line. Once price touches the red line its time to pull the trigger, enter a buy trade and place your stop 20-25 pips behind the red support line. 

Are you starting to see the $ signs yet? The beauty of this setup is the risk reward ratio is huge at around 1-3, so what does this mean to us?

1-1 = 50% wins to break even.
1-2 =33% wins to break even.
1-3 =25% wins to break even.

So as long as you win more than 25% of your trades you are making money!

Lets have a look at another example of a trade setup, this time I will show you the same setup on a trend line breakout.

 

On the above chart there is a lovely upwards sloping trend, price is clearly above the green 30ema and is consolidating below the trend line. If you look carefully at the breakout on this chart you will see that price shot up then retraced as the candle closed. On the opening of the next candle price took off to the moon, lets checkout the lower time frame again.

 

Above is a 30M chart of the same setup, now you can see the breakout and retrace perfectly.

This entry technique requires a lot of patience as many times you will miss a huge move because price didn’t retrace back before taking off in the direction of the trend. In these times there is nothing we can do but look for another setup, remember we are in this business to make money not give it away, don’t get caught up in the moment and start trying to trade the initial breakout!

The beauty of this entry technique is that your trade generally moves into profit very quickly. Once you gain experience trading this setup you will be able to spot them a mile off.

When you enter a trade at the retrace you should be in profit within the next couple of candles if not sooner, if there seems to be no movement then get out with a very small loss. Try to keep you losses as small as possible on trades that don’t look right.

As I am writing this I made a trade on the USDCAD I would like to show it to you because it is a great example of the setup I am explaining.

Above is my current live trade on the USDCAD, as you can clearly see the pair is in a downtrend and below the 30ema.

I have been keeping an eye on this pair for the past few days since there was enough low points to create a trend line (you need at least 2 points to create a trend line, 3 is better). Price broke down yesterday during a news announcement, and then retraced today back to the trend line where I opened my position. The green dashed line is my entry and the red dashed link is my stop, I placed the stop further away than I normally would on this trade due to the fact that price could test the major trend line that is drawn on the chart.

The trade rocketed into 23 pips profit and then came back against me a little when I took the screen shot of the trade.

News is due out tomorrow morning so once I'm in profit by 30 pips I will move my stop to break even. I am targeting the previous low point on the chart which is 90 pips away and if that is broken then I think the down trend will continue and I will hold on for a few hundred pips. 

This setup can also be used on daily charts with very good results although I tend to stick to double tops as they perform far better than trend line breaks. This is due to the fact that every trader place's a trend line in a different place so the breakouts are less reliable with everyone seeing the breakout in a different place where as a horizontal line can not be misinterpreted so easily.

Ok more examples you need to learn this stuff, let's check out a setup on a daily chart to see what I'm talking about.

This is a recent trade I took on the EURUSD, a very clear double top was formed a while back and I have had my eye on it ever since. After a huge drop off price fought back and broke through the resistance created by the double top. Two days later price fell back to the support line (resistance becomes support once price breaks though) where I had my buy position waiting with a small stop loss of 40 pips. The trade only went against me by about 20 pips before making my trading account much happier :0)

I would like to point out that with horizontal support and resistance lines you can use smaller stops than with a trend line I find that if the horizontal line is severely broken I get out of the trade as soon as possible because the chance of the trade being a success is almost none existent.

The chart above Is a trade spotted on the daily chart with a strong trend line. However I initiated the trade from the 4H chart as usual, see how price kept banging against the trend line on the retrace?

Normally I would have been stopped out on this trade at break even because after the initial retrace price came back to test the trend line again but I knew this trade may need a little room to breath as the trend line was from the daily chart.

Ok so we have seen a few good trades lets see some that we couldn’t take because price wasn’t cooperating.

Above there is a perfect consolidation forming above the 30ema with a trend line. Price broke out and I had my buy order ready at the trend line but unfortunately price left without me on board. This will happen sometimes and It’s a fact of trading you cant win them all. Be patient because like busses there will always be another one coming along soon.

Above is yet another example of this setup in action, this is a 1H chart which I spotted and entered the trade. I moved my position to break even very quickly as this trade looked like it had no volume and moving sideways. Not long after I moved the stop to break even the trade fell out of the sky making my trading account happy again :0)

You may be wondering what the other moving averages are for? Well they are not essential to the main system and setup but they are very useful as targets when price is passing through them. The 150,200 and 365 ema's are watch by traders and institutions all over the world and therefore price reacts to them as it approaches.

I highly recommend you use them during the planning of placing stops and taking profits.

For example if the 365ema was below you and you were planning on taking a sell trade from a break of a double bottom it would be wise to wait until the 365 is broken or miss the trade altogether. 

Lets have a look at a chart so you can see exactly what I'm talking about.

On the chart above I have marked with a white arrow every point that price has bounced off of one of the ema's. As you can see they act as a pivot point to price, usually stopping it dead in its tracks. Generally the 365ema has more importance than the 200 and the 200ema has more importance than the 150.

TIP: If you see all the moving average come together be ready for a large move, this doesn’t happen very often.

Step by step live trade

I wanted to show you the process of taking a trade with this system from start to finish so I decided to take 4 screen shots of a live trade I recently took as it was happening, each screen shot is a different stage of the trade.

The screen shot below is just after I entered the trade, NZDUSD created a lovely double top in an up trend. The double top was broken with a volume candle and then retraced back to the support line triggering my order. I placed a 50 pip trailing stop to lock in profits and a profit target chosen from the daily chart if it gets that far.

A hour later we are in profit by 50 pips which means the trailing stop has moved to break even, this trade is now a free ride! I have nothing to do now but collect whatever profits the market makes available to me, the trailing stop will make all the calls from now on eliminating the need for human interference which will only cause us to lose profits due to fear and greed.

The last 4 hour candle has closed as a very large bullish candle indicating volume, we are currently around 100 pips in profit and the trailing stop has locked in 50 pips for us, lets see how far this move will go, will it get to our profit target of the strong resistance on the daily chart?

12 hours after the trade was initiated we hit our profit target of 132 pips my weeks trading is over!

This trade never went negative on me by more than 5 pips.

Conclusion

As you can see using this method of entry is very profitable and gives plenty of good trades every month.

I would like to point out that you should not ever follow a trading system blindly, as you gain experience with a trading system you will begin to get a feel for the good trades and bad ones alike. 

Once you get the hang of trading these setups I highly recommend that you study candlestick formations to use as your entries, a small section on candle stick formations is located at the end of this book.

The 4H Knife System will slowly but surely build you trading account. 

All you need to do is keep your discipline under control and don’t try to trade too many pairs at once.