Two of the most frequently discussed forex technical analysis concepts are support and resistance. Support is commonly denoted as a “floor” that is holding the prices up. On the other hand, resistance is when the rising costs stop and de-escalate, i.e., fall. Hence, resistance is a “ceiling” that prevents price rise.
The support level is the price at which the sellers seem to run out of steam and buyers start taking control. The resistance level is the price at which demand for a currency appears to fall while supply rises.
Unlike in other markets, these levels do not reflect actual values but rather the points at which one side of the market switches direction.
In simple words, support is the level at which the downtrend is likely to stop or reverse while resistance is the level at which the uptrend is likely to halt or reverse.
Even though the first impression of the concepts might seem easy to grasp, they come in various forms, and new traders find them challenging to master.
A price break of either of them leads to the next level and may not be exact. They often have a small range of zone coverage with the possibility of breaches without breaking. So, they help to establish points of possible direction.
Whether you’re a newbie or an expert trader, the next support and resistance level is always a mystery. However, technical analysis can assist you in finding the closest support and resistance level in the capital markets.
A stage of support occurs due to the concentration of buying interest or demand that pauses the downtrend. When the prices of the financial instrument reach a lower limit, buying concentration increases. On the other hand, resistance zones include increased costs due to selling interests.
There are two significant forms of support and resistance, namely, Major and Minor.
In theory, support is a stage wherein strong buying power prevents further price decline, and therefore, buyers avail a cheaper deal. But, on the other hand, sellers resist a sale, as they have a worse deal. Under such a circumstance, demand overcomes the supply and prohibits a price decrease below the support.
Meanwhile, resistance is the price struggling to rise from the current state. Under such a circumstance, the selling power obstructs further price rise, and the cost becomes closer to resistance and expensive. Given the case, sellers offer more to sell, whereas buyers tend to stray away. Therefore, the supply overcomes the demand and prohibits prices from rising above the resistance.
After reaching a certain support or resistance level, the price either bounces back or violates the price level until it hits the next level. A few trade beliefs rely on the opinion that the two zones won’t break.
Therefore, based on these two levels, traders can bet on the trade direction when the price halts or breaks. Traders obtain a slight loss if the price doesn’t move in their chosen path and might incur substantial profits if it does.
Most traders come across support and resistance within a few months. It is a very basic indicator of price movement that is visible through technical as well as fundamental analysis.
For example, let’s assume you were a trader and had a stock position between a few months, e.g., April to December, and expect the price to increase.
Unfortunately, over the months, you noticed that the cost of stock remains stagnant at $50. At this point, you are stuck with a resistance level, commonly referred to as the “ceiling,” because the trade chart shows no increase in the different price levels.
On the contrary, the trade chart also shows the support value by stopping asset prices from moving further downwards. Once marketers notice an asset has reached a support level, they endure buying opportunities and push up the spiral upwards until it obtains the resistance level. The cycle remains ongoing for months.
The concept of trendlines is vital for understanding support and resistance.
Support and resistance would become non-existential if people were rational and didn’t make cognitive errors, take shortcuts, or choose heuristics. Traders find it challenging to predict the increase or decrease in prices because of the belief in the asset’s underlying value and, therefore, increase the volume more than required.
Many inexperienced fairly value stocks at whole numbers and tend to buy or sell assets. Therefore, stop orders or target prices by large investment banks or retailers often have whole number prices instead of $30.67. The target price or price target is the estimated value of security determined by an analyst within the next 12 to 18 months.
The valuation is based mainly on the company issuing the stock. Since the orders are at the same level, they act as price barriers. At this point, if clients sell at $33, only extreme purchases can take the sales, and therefore, a resistance level would build up.
A constantly changing moving average is used by technical analysts and technical indicators to predict short-term behaviour. However, the tools have become much more potent for traders that can identify support and resistance levels. A moving average on a chart is constantly changing line-based historical price data.
The line helps the trader to identify support and resistance. Moreover, whenever the trends go up, the support level is determined by the moving average. Similarly, the line shows resistance zones on a downward spiral of a moving average line. Thus, traders can use the moving middle line to determine entry or exits and anticipate the moving average of a stock.
Often traders exit trades when the price line diminishes below the moving average and reverse actions when it crosses the line. Besides this, a few other indicators help traders. For example, Fibonacci retracement is a short-term trader tool for identifying potential support or resistance levels.
Investors and traders often clarify areas of support or resistance based on price charts and the significance of price levels based on touches, historical moves, volume, and time. The trading decisions are based on the historical support or resistance levels when prices bounce off.
Similarly, support or resistance zones become significant based on advances or declines of currency pairs. For example, steep resistance may occur during an uptrend, then a slow and steady advance, without attracting attention. Hence, market psychology is one of the critical reasons for driving the indicators.
Based on historical buying or selling volumes, the support and resistance levels may also become more robust at specific price levels. Price diminishes whenever a high volume of trading activity occurs and boosts sales. Moreover, traders want to close the trade at a breakeven point than at a loss. Also, the support and resistance levels obtain higher significance with extended periods of testing.
When either of the support and resistance level is broken, support can become resistance and vice versa. If the prices of underlying instruments go below a support level, it is very likely that the prices will face resistance the next time it reaches back to the resistance that was previously a support level.
Visual identification of support and resistance through price charts can help traders in predicting price trends. The change of support to resistance and resistance to support will allow traders to make better decisions regarding stop loss and take profit.
Support and resistance levels are generally broken through steep price movements. However, the new support and resistance levels that are created after the steep price movements are likely to be much stronger than previous levels. This is because a rapid price movement will be halted by severe competition and opposing forces.
This opposing force will be much stronger than the one that supported or resisted the small price movement. Hence, sudden steep price movements create much stronger support and resistance.
When significant support or resistance level is reached, a lot of traders will be closing their position or opening new positions. Hence, the trading volumes will increase when the prices are close to the support and resistance level. Increased trading volume will in turn increase liquidity and stability in the prices.
Hence, the trading volumes are high at major support and resistance levels. It has been witnessed that higher trading volume will further strengthen the support and resistance level and it will become stronger.
Technical traders use support and resistance as tools for forex analysis. Support is the floor, whereas resistance is the ceiling of the price trend. Moreover, a zigzag upscale represents a bull market.
Traders selling when the price reaches resistance and buying at a support level are following the bounce method. Meanwhile, buying when the resistance level breaks up and selling with a support price breakdown is known as break trade.
The area of resistance or support becomes stronger as many times the level gets tested. When either level breaks, they often get interchanged i.e. support becomes resistance or resistance becomes support.
Support and resistance play a key role in predicting price movements and trend reversals in forex trading.
To identify the support and resistance levels in forex, traders need to look at the chart of historical prices. If the prices have stopped moving further and stayed at the same level multiple times and reversed, the levels are likely to be support or resistance.
When prices are at support or resistance levels, the reversal is heavily anticipated in the price trend. When prices reach a certain lower level from where it is not going further down or has reversed historically, it is called support level. When the prices reverse from upper levels at certain levels multiple times, a resistance level is created.
Most traders prefer to buy when the price reaches the support level as the price trend is expected to rebound. At resistance, selling increases as the price trend is expected to change. Prices may take time to steer away from the support and resistance levels hence some also do not prefer to open trading positions when the prices are near the support or resistance level.
Every time the price trends change at a particular support or resistance level, it becomes stronger. The strongest support and resistance will be at levels from where price trends have reversed the highest number of times.
8 and 20-day EMA are most popular among traders to find support and resistance. However, some traders may also find 10-day, 50-day, or 200-day EMA to find out support and resistance levels. The preference depends on the analysis technique and trading strategy.
Undestanding of Support and resistance levels can be very helpful for traders. When prices are at a support level, it is likely to bounce upward suggesting a good time to buy while resistance is considered the ceiling of the price range and indicates a selling opportunity for the trader.
A support is the bottom from where the prices are likely to move upwards. Resistance is the level at which the prices are likely to fall downwards. Both support and resistance levels indicate changes in the price trends and are very useful for traders.