Support and resistance are two of the most important concepts in technical analysis of financial markets, especially in stock and currency trading. These concepts are used to identify price levels at which the price may stop or change direction, thus helping traders make better decisions about entry and exit points.
1. Support concept:
Support is a price level below which the market is expected to have difficulty falling. Simply put, it is a price that “supports” the current price and prevents it from falling further. This happens because there is an increase in buyer demand at this level, making it difficult for the price to fall further.
Reasons for support:
Increased Demand: When the price reaches a certain level, traders expect the price to bounce back up, increasing demand.
Market Psychology: Some price levels become known as support levels among traders, which makes traders trust these levels and buy at them.
How to identify support levels:
Support is determined by looking at previous charts and seeing where the price stopped falling.
If the price repeatedly stops at a certain level, it indicates that there is support at that level.
2. The concept of resistance:
Resistance is the exact opposite of support, it is a level above which the market is expected to struggle to rise. Simply put, it is the price that faces “resistance” from sellers selling at that level, preventing the price from rising further.
Reasons for resistance:
Increased supply: When the price reaches a resistance level, traders believe that the price will fall, so they sell at that level.
Psychological levels: As with support, levels where there are repeated declines tend to become known to investors, prompting them to sell at those points.
How to identify resistance levels:
Resistance is determined by looking at previous charts and seeing where the price stopped rising.
If the price repeatedly stops at a certain level, it indicates that there is resistance at that level.
3. How to use support and resistance in trading:
Breaking support or resistance: When a support or resistance level is broken, it indicates that the trend may change. Breaking support may mean that the price will continue to fall, while breaking resistance may mean that the price will continue to rise.
Retesting Support or Resistance: After a support or resistance level is broken, the price may retest that level again. If the price fails to retest in the same direction (for example, if the price retraces to a support level but fails to rise again), this may indicate a change in trend.
In the following image, the price broke a strong resistance line, then re-opted it and rebounded upwards. A strong buying opportunity.
Trading Strategy: Traders can use these levels to determine entry and exit points. For example, a trader may decide to buy at a support level and sell at a resistance level.
4. The importance of supports and resistances:
Risk Management: Support and resistance levels help traders determine Stop Loss and Take Profit points. Once these levels are identified, traders can place stop loss orders below the support level or above the resistance level.
Predicting future movements: These levels can indicate potential future trends. For example, if a resistance level is successfully broken, traders may expect the price to continue rising.
5. Advanced concepts of support and resistance:
Moving Support and Resistance: Sometimes, supports and resistance can be moving, especially in markets that experience strong volatility. Traders may notice that supports and resistance move over time based on changes in supply and demand.
Multiple support and resistance: Several support or resistance levels may exist at the same time, and the effect of each level may vary depending on its strength and duration of stability.
Harmonic Pattern: Sometimes support and resistance can be combined with other patterns such as flags or triangles to get stronger signals of market trends.
6. Examples:
Example of support: If a particular stock price has fallen to $50 on three previous occasions and bounced back each time, the $50 level is considered strong support. If the price reaches $50 again, traders might expect an upward bounce to occur.
Resistance Example: If a stock price has reached $100 on several occasions and bounced back down each time, the $100 level is considered resistance. If the price approaches this level again, sellers may be more willing to sell at this price.
Understanding supports and resistances is essential for traders to identify potential market trends and achieve effective trading strategies.
