Pullback trading strategy's explanation
Another profitable swing trading strategy, pullback trading refers to trading the pullbacks to previously-broken support and resistance zones. Pullback trading is one of the most popular trading strategies among swing traders.
We’ve already mentioned that support and resistance levels work because of memories of market participants. When one of those levels break, they become the opposite of what they’ve been – a broken support level becomes a resistance level, and a broken resistance level becomes a support level. Pullback traders try to take advantage of this interesting phenomenon of financial markets.
Market participants tend to place pending orders around broken support and resistance level. Sellers place sell orders at a previously-broken support level, and buyers place buy orders at a previously-broken resistance level.
When profit-taking activities of market participants who’ve already been in the market send the price back to the broken support or resistance level, those pending orders get triggered and push the price in the direction of the initial breakout. In general, this is how a pullback forms.
The following chart makes this crystal clear.
When trading pullbacks, a stop-loss should be placed just above the broken support level for short positions, or just below a broken resistance level for long positions. Traders can take profits at the recent swing high or swing low.