Higher Timeframe Lessons from the Longterm Breakout in Silver SLV

Apr 7, 2011: 11:42 AM CST

Picking up on yesterday’s theme of “Higher Timeframe Perspectives,” let’s take a look at the larger structure of silver and learn a few lessons in commodity price breakouts which can travel higher than many traders think they can.

Let’s start with the big monthly frame of Silver Prices:

Keep in mind that silver prices are positively correlated both with economic conditions and inflation.

Let’s focus first on the $20.00 index level which was initially hit in early 2008 during the high inflation period just before the financial meltdown in 2008 that zapped all asset prices but the Dollar Index.

In late 2009 and more so in 2010, Silver prices rallied up to this key price pivot and retraced downward from it – locking it in as a critical price reference level.

This is a great example of the “IF/THEN” larger timeframe logic that is purely price-based and is as simple as it gets.

It argues that traders should be cautious while Silver is under the $20 level, but on any future breakout, should be long-biased to play the expected range expansion and breakout.

Finally, in September 2010, price meaningfully shattered the $20 overhead resistance level, setting up a major trend (primary trend) buy signal for investors and traders.

We would learn shortly after this that the Fed’s QE2 liquidity/inflation-creating policies (along wither other Central Banks engaging in similar liquidity-injection policies) were largely responsible for this bullish surge not just in silver, but in commodities across the board (as I showed in my post “Cross-Charting the Fallout from QE2 Stimulus“).  But that’s another story.

Let’s zoom in now to the Weekly Frame for a tighter perspective of the recent action:

Again, we can see the lesson of higher timeframe “IF/THEN” price logic – such as the importance of the $20 index level pivot for long-term positioning.

On the breakout, a Positive Feedback Loop developed wherein buyers were – well, buying – and short-sellers were also buying to cover their losses (betting that $20’s resistance level would hold … when it didn’t, they had to take their stop-losses).

I describe in much more detail both Positive Feedback Loops, Breakouts, and Range Contraction and Expansion in Chapter 3 of the new Complete Trading Course.

Needless to say, I wish I could have included Silver and the recent commodity breakouts in the book as perfect examples!

Anyway, from a long-term perspective, there were two clean, low-risk (high probability) entries into the developing breakout structure:

1.  The Initial Break above $20 (your classic “breakout” play)

2.  The First Reaction/Retracement to Support (in January 2011 back to the 20 EMA at $26)

This would also make a great example when I described “The Life Cycle of a Price Move” in Chapter 7, specifically when to play Breakout Trades, Retracement Trades, and finally Reversal trades in the context of a developing trend expansion (birth, maturity, end) cycle in price.

That’s not to say you can’t trade at other points in the developing breakout, you certainly can (particularly using lower timeframes) but on the weekly chart, the two best chances for an entry with a clean, well-defined stop-loss were the initial breakout (stop just under the breakout at $19 or under the lower support trendline and EMAs at $18) and the initial big retracement to the 20 EMA – again with the stop under the 20 EMA at $26/$25.

Price appears to be completing a large-scale Bull Flag and faces a critical chart challenge (target) at the $40 overhead level where we are now.

But from the charts above, there are a few big-picture lessons we can learn and apply to the future:

1.  In the context of a large-scale breakout from a critical resistance (or support) level, price can travel/trend (expand) MUCH further than many traders/investors believe that it can.

  • Don’t try to fade or fight a large-scale breakout move
  • Use lower timeframes to time entries into a large-scale breakout
  • The best trades will come from playing IN the direction of the breakout
  • Positive Feedback Loops are perpetuated from both Buyers Buying and Bears/Sellers Buying (cover)

2.  Use simple strategies for position entry into higher timeframe structure

  • Prepare for the breakout in advance of it actually occurring (know your “IF/THEN” Logic)
  • Decide how much confirmation you need to enter a breakout trade.
  • Do not beat yourself up thinking “Gosh – it’s already moved too high.  I can’t enter.”
  • Usually the most aggressive tactics work better in breakout-style environments (get the trade on)
  • Use lower timeframe charts for entries or play higher timeframe retracements

And as always, use your past experiences and observations as stepping stones to learn better strategies for the future when similar situations set-up in real time.

Corey Rosenbloom, CMT
Afraid to Trade.com

Follow Corey on Twitter:  http://twitter.com/afraidtotrade

Corey’s new book The Complete Trading Course (Wiley Finance) is now available!


2 Responses to “Higher Timeframe Lessons from the Longterm Breakout in Silver SLV”

  1. amalgamator Says:

    Hi Corey, many thanks for all that you do.

    Just to add that the gold:silver ratio is now around historic average suggesting silver has just been playing catch up following underperformance around the recession. In other words, out of context it looks like a parabolic unsustainable move for silver, but in context it looks like it has been frogmarched to fair value (relative to gold).

    John / http://www.amalgamator.co.uk

  2. Positive Feedback Loop Situations in SPX Price | Afraid to Trade.com Blog Says:

    […] Higher Timeframes Lessons from the Breakout in Silver (Aug. 7, 2011) […]