There are three phases of the market that you need to know to understand how markets move and work. The three phases of the market are congestion, breakout, then blow off. The first phase of the market is congestion. The market is in congestion more than 65% of the time. Congestion can be hard to identify and there is no clear cut way to spot it, it all has to do with the levels that you set within your own chart. We will see later how to identify congestion within a chart, but for this section let’s just go over definitions. Congestion happens when the market is trading between a level of support and resistance. Picture yourself in a room; if you put a balloon in the room it will continue to bounce up and down between the floor and ceiling until it finds a place to break out to either the upside or downside. In the case of the room, the floor is acting as support and the ceiling is acting as resistance. The only way the balloon with leave the room is if it finds a hole in either the ceiling or the floor. Let’s say that the balloon finds a hole in the ceiling. The balloon will leave the room (acting as congestion) and breakout to the upside.
Now we find ourselves in the second phase of the market, the breakout. The balloon has found a way out of the room and is breaking out to the upside. The balloon has left its level of congestion and is now moving upward. If we think of a chart, we can imagine that the chart has been trading between a level of support and resistance and is now moving in the upward direction past the level of resistance. Now we must let the chart trade and look to identify new levels of support and resistance to find our new level of congestion. Let’s say that after the balloon breaks out from the hole in the ceiling (resistance) that it has been traveling upward for quite some time after finding new levels of support and resistance. There is a point in every chart (or market) when the balloon will reach the third phase of the market which is a blow off. The balloon has been traveling upward for too long and will eventually pop and spiral downward.
A blow off happens when the market finds a top which we call a major level of resistance and starts breaking down without a level of support in sight. We have all seen a balloon pop before and know that when it pops, all of the air starts to rapidly escape the balloon. The balloon will ultimately fall to the ground, but not before it has minor upswings with the air inside of it blowing in all different directions. When a market hits its top, it does not just go straight down as there will be some minor up movements. But if we look at a chart a couple weeks after a blow off, we will see that it bottoms out to a new floor just like the balloon would if we were to pop in mid-air. You now have learned about the three major market phases and how they work both figuratively and literally. We will show you how this actually works within a chart in a later section.