Support and resistance are essential and popular tools in forex trading. The applications of support and resistance are not reserved for the forex market but in a wide range of financial markets.
Worth noting is that support and resistance are some of the most discussed aspects of technical analysis and play a critical role in studying price charts. Investors will often refer to a support level as the chart’s price level that blocks the prices from being pushed further downwards.
On the other hand, resistance is considered the barrier where the prices will not push further upward. Support and resistance are essentially barriers to price direction.
A support level is a point where the price of a security does not fall below for a given period. Often, the support level forms when buyers enter the market when the prices are falling. They start buying the asset, and the prices bounce back, creating the support level.
When this happens for a while, and the share price does not go below that, the support level is formed. Sometimes the share price of an asset will go below the support level. If observed for some time that the new support level is holding, then a new line is created. This must be created to accommodate the recent lows.
Demand or the buying interest of investors creates a support level. Sometimes, limit orders can also create a support level. This is when there are orders to sell securities at a specific price, especially when a sell limit order is set to be executed at a limit or higher price. Several actions from investors create a support level.
A support level is used for technical analysis and helps traders identify entry points for a trade. When the price movement breaks the support level, some investors see it as an opportunity to take a short position or buy the security. When the support level is broken on an upward trend, the traders may take this as a sign of reversal. At this point, they could time the reversal for an entry.
When there is a downtrend in a share price, security prices drop, creating a demand for the shares. Support levels may change, but a zone can be identified, and traders use the area to determine different entry points.
A resistance level is the price level at which the price of a security does not go above for a while.
It is created during an upward price trend that is met by pressure due to a growing number of sellers. When many sellers are willing to sell securities at a specific price, the upward trend stops.
A resistance level is also created when a market event of information changes investors and the overall market’s attitude towards a security. A resistance level can be short-lived or long-term depending on the market events and traders’ actions. The resistance line can therefore be flat or slanted.
Traders are keen on identifying the resistance level just like they do with a support level to establish the ideal time to sell or buy a security and capitalize on trend reversals or breakouts. Some investors also utilize resistance levels as a risk management tool.
They can minimize risk by using trade triggers such as a stop-loss order when the resistance level is breached. How does this work? By placing a stop-loss order, traders set an order to sell their stock if the prices fall below a certain level.
Sometimes, the resistance level is breached and must be redrawn to accommodate the new price data.
Minor and Major Resistance and Support Levels
Minor resistance and support levels don’t hold the prices. Instead, they create temporary resistance and support rising or falling prices. With this, the larger market experiences a change in direction. On the other hand, major levels are the areas that cause the reversal of trends.
Therefore, the minor resistance or support level would represent an area that previously served as a resistance or support. A good example is when a previous support level becomes a resistance level.
Another example is when an upward price trend breaches the previous high, then shortly afterward, there is a pullback, then it continues to make a higher high. The pullback is the minor support area because this is the point where there was a bounce back.
The major and minor support areas still hold significance as they allow investors to increase their holdings.
Support and resistance levels are at the core of the technical analysis. Identifying the levels of resistance and support can help traders get insights into when the price levels are on an uptrend or downtrend. Foreseeing resistance and support is advantageous as it helps traders spot opportunities and risks. This way, investors can make the most out of their investment and set trade triggers.