Support and resistance are some of the key concepts in trading. If you want to maximize your trading efficiency, you have to take a good look at them.
So, let’s find out what these levels are and how you can use them as part of your strategies.
1. Support level
The level that an asset’s price does not drop below for an extended period is referred to as the support level.
Buyers who enter the market whenever an asset’s price falls produce an asset’s support level.
The simple support level can be tracked in technical analysis by drawing the line at the lowest lows for the period under consideration. The support line might be straight or inclined up or down in relation to the general price trend.
2. Resistance level
Resistance is the price level at which an asset’s price encounters pressure on its journey up due to a growing number of sellers willing to sell at that price.
Resistance levels can be short-lived if additional information emerges that affects the market’s overall situation, or they can exist for longer periods.
In terms of technical analysis, you can plot resistance levels by drawing a line along with the period’s highest highs.
How to trade using support and resistance levels?
The basic trading strategy for employing support and resistance is to buy near support in uptrends or areas of ranges or chart patterns where prices are moving up and sell/sell short near resistance in downtrends or portions of ranges or chart patterns where prices are moving down.
Even while trading a range or chart pattern, it might be useful to separate a longer-term trend.
For instance, if the trend is down, but a range develops, short-selling at range resistance should be preferred over buying at range support. The downtrend indicates that going short has a higher chance of earning a profit than buying.
If you buy near support or sell near the resistance level, it can be profitable, but there is no guarantee that support or resistance will be maintained. As a result, you can consider waiting for evidence that the market is still respecting that area.
Wait for consolidation in the support region before buying when the price breaks above the high of that short consolidation area if buying near support.
When the price moves in such a way, it indicates that the price is still respecting the support region and beginning to go higher off of support. The same idea applies when selling at resistance.
Wait for a minor consolidation at the resistance region before entering a short trade when the price falls below the low of the small consolidation.
When buying, place a stop loss several pips (in forex trading) below support and a stop loss several pips above resistance.
When buying while waiting for a consolidation, set a stop loss a few pips below the consolidation. When selling, set the stop loss a few pennies, ticks, or pips above the consolidation.
When you initiate a trade, set a target price for a successful exit.
Consider exiting the trade just before the price reaches a high resistance level if you buy near support.
You can also exit at small levels of support and resistance. For example, if you’re buying near support in a rising trend channel, think about selling at the channel’s top. If you’re shorting at resistance, make your exit before the price reaches strong support.
Keep in mind that support and resistance levels are not exact numbers.
Frequently, you will notice a support or resistance level that appears to be breached, only to discover that the market was only testing it. Candlestick shadows on candlestick charts typically depict these tests of support and resistance.
In addition, the highs and lows generated by the support and resistance levels might generate buy or sell signals. Remember that breakouts can occur on these levels frequently. Therefore traders must adjust their positions as a trend reversal rather than a continuation.
Support and Resistance indicators
The support and resistance indicators help you in measuring these levels. From this, traders can tell whether the price of an asset is rising or falling.
Here are some of the most popular support and resistance levels indicators:
a. Fibonacci Retracement
The Fibonacci retracement indicator comprises a horizontal line that tells you about levels of support and resistance. This indicator is based on the Fib sequence of numbers. Fib numbers are made up of a series of numbers formed by adding the preceding two numbers, like 0, 1, 1, 2, 3, 5, 8, 13, 21, and so on.
The computations in the Fibonacci retracement indicator are done as a ratio. 23.6, 38.2, 50, 61.8, and 78.6 percent are the most common ratios.
The indication can be plotted between any two points, such as high and low. Between these two points, the Fibonacci retracement would produce support and resistance levels.
The benefit of applying Fibonacci retracement is that it can pinpoint precise entry and exit locations, with stop-losses closer to the most recent swing low or high.
b. Wolf Wave
The Wolfe Wave indicator is built on five equal-sized waves that indicate the price. The indicator draws support and resistance lines by producing these five waves.
When there is a significant demand for a particular asset, the indicator displays support levels in the form of waves, and when the price begins to fall, it displays support levels in the form of waves. On the other hand, the resistance line arises when supply increases and the price begins to rise.
Traders use the indicator to seek breakouts. The price attempts to move outside of support and resistance levels as the Wolf makes waves.
After that, you take your positions based on breakouts.
When a breakout happens in an uptrend, it is a sign of a reversal, and short positions should be taken. In contrast, when a breakout occurs in a downtrend, you take buy positions.
Bottom line
It takes a lot of practice to trade off support and resistance. You need to identify trends, ranges, chart patterns, support, and resistance. As with other types of technical analysis, these levels must be used with other types of analysis.