The Point of Initiation

Every breakout strategy has to start somewhere. That starting point has a name in my formula: the Point Of Initiation, or POI.

Before we get to it, let me lay out the key principles you need to understand about defining a trading breakout.

What are the key principles of a breakout?

1. A market breakout always happens in SPACE and TIME. This is the most important part to understand.
2. To pinpoint the optimal space, we need to calculate it from some starting point. We need a POINT OF INITIATION (POI).
3. When we take a Point Of Initiation and add or subtract SPACE, we get the BREAKOUT LEVEL.
4. Calculating the breakout level alone is not enough to build a viable strategy. To reduce the frequency of false breakouts — a must for profitable trading — we also need one or more relevant FILTER(S).
5. And because good trading is all about timing, we need to take TIME into consideration too.

So to construct a breakout strategy, we need four components:

• The POINT OF INITIATION
• The SPACE calculation
• The optimal TIME to enter the trade
• Relevant FILTER(S)

Pretty simple so far, right?

If you worked that out on your own just from looking at a breakout chart, congratulations. You’ve made your first step toward becoming a breakout trading specialist.

Why do breakout traders always use stop orders?

Apart from the four-component model, there’s one more thing you need to accept: in breakout trading we will always use a STOP ORDER for our entries.

This is another important part of the Mr. Breakouts formula.

A stop order — sometimes called a market stop order or stop market order — matters because it lets us place our entry order in the market in advance.

Once the computer calculates the desired BREAKOUT LEVEL, it automatically places a STOP ORDER at that level. The moment the market hits it, the position — long or short — is immediately established.

No watching screens. No decisions in the heat of the move. The order is already sitting there.

But before any of that can happen, we need the breakout level. And for that, we need a POI.

Where exactly should the Point of Initiation be?

Here’s the surprising truth.

It really doesn’t matter.

This is the rule of CREATIVITY applied to the POI. With the POI you can test anything. There is no right or wrong. Different ideas simply bring different results.

For example, you can use today’s OPEN. Or yesterday’s CLOSE. Or today’s LOWEST LOW. Or today’s HIGHEST HIGH.

A simple line of code representing the Point Of Initiation could look like this:

POI = CloseD(1)    // Yesterday's Day Close in TradeStation

Or:

POI = OpenD(0)     // Today's Day Open in TradeStation

I could easily add many more. Any simple, or even complex, idea will do.

It is your job to fire up the creative part of your brain and think about what else could serve as a POI. If you’ve been trading for any length of time, you should easily be able to come up with five more right now.

Take a pen. Write down five of your own POI ideas before you read on.

That’s it. You’re already applying one of the three rules of breakout trading success — creativity.

Can you combine POI ideas?

Yes, and you should.

Always test different ideas and different combinations. Once you’ve tested basics like today’s open — OpenD(0) — and yesterday’s close — CloseD(1) — you can combine the two and use whichever is higher or lower.

In TradeStation:

POI = MinList(OpenD(0), CloseD(1))
POI = MaxList(OpenD(0), CloseD(1))

The possibilities here are literally endless.

What if the market trades 24/7?

Good question. Forex and crypto don’t have a clean daily open or close, so the standard POIs get fuzzy.

In that case use a POI that doesn’t depend on opening or closing times. Moving averages work. So do bands — Bollinger Bands, for example.

Or try this: plot VOLUME on your chart and look for specific times of day when volume increases sharply. If that happens most days, or on certain days of the week, as a regular pattern, you have a testable POI.

You can then treat those recurring volume spikes as the “open” of the day. Around that time a lot of traders are clearly entering the market. In a sense, it’s an unofficial open.

If you work in TradeStation, time-templates will do the job.

There is always some solution. Always some idea. Don’t be afraid to experiment.

The one thing to remember about POI

You cannot go wrong with any kind of POI for your testing.

This is the most flexible component of the entire Mr. Breakouts formula. It’s the place where your ideas cost you nothing and might buy you an edge nobody else has.

Pick one. Then test it.

Next, we add SPACE — and that’s where the holy grail indicator comes in.