What are support and resistance levels
Support and resistance levels are at the core of most forex and index market trading strategies. Numerous studies of successful spread bet and CFD traders have found that most just use simple support and resistance levels. They use these to underpin where and when they take a trade. Support and resistance is at the core of all trading in our Live Trade Room.
A level is formed when a market’s price action reverses and changes direction, leaving behind a peak or trough in the market.
What is a Resistance level
Resistance levels are price levels that typically connect horizontal price bar highs to other price bar highs.
What is a Support level
Support Levels are price levels that typically connect horizontal price bar lows to other price bar lows.
These change points are called swing points. Price will often respect the support and resistance levels and they tend to contain price movement until price breaks through them.
Support and resistance is also known as supply and demand levels. But what exactly is supply and demand?
Supply
Supply is an area on a chart where sellers are likely going to overwhelm buyers causing the stop to go down. On a chart, we call this resistance.
Demand
Demand is an area on the chart where buyers are likely going to overwhelm sellers causing the stock to go up. On a chart we call this support. generally, therefore, it makes sense to buy at support and sell at resistance.
Buyers will continue to buy at support and will do so until they believe the fundamentals of the market have changed. It is not unusual to see price move up from a support level a number of times.
Sellers will continue to sell at resistance and will do so until they believe the fundamentals of the market have changed. It is not unusual to see price move away from a resistance level a number of times.
When price action is moving up and down between a support and a resistance level, the market is known as ranging. A breach of a support and resistance level, known as a breakout, signifies a change in the supply and demand.
On a move up through a resistance level buyers are now prepared to pay more than previously. Some of the sellers in the market, like the idea of a higher price and stop selling in the hope of getting a better price later. And with less sellers in the market, the in-balance between supply and demand means the market moves higher. The dynamics of the market have changed, and both buyers and sellers reassess their understanding of the market and will often change their buy or sell strategy.
On a move down through a support level sellers are now prepared to accept less than previously. Some of the buyers in the market, like the idea of a lower price and stop buying in the hope of getting a better price later. And with fewer buyers in the market, the imbalance between supply and demand means the market moves lower.
The dynamics of the market have changed, and both buyers and sellers reassess their understanding of the market and will often change their buy or sell strategy.
Support turns to resistance
The role reversal feature of support and resistance level is a little understood concept by beginner traders. In essence, a strong support or resistance level once breached, may change its role from support to resistance or resistance to support. There are numerous suggested reasons for this role, and it is possibly due to the new psychological dynamics of the market following the breach. The easiest way to start to understand support and resistance is simply to look at charts.
Plotting support and resistance
Some beginner traders will plot support and resistance on every timeframe that they can find. And although the support and resistance levels may not in themselves be wrong, plotting too many support and resistance levels can make trading decisions difficult.
At Trade Room Plus we primarily plot key support and resistance from swing points on the daily timeframe and the one-hour timeframe. We don’t generally consider support and resistance levels that show themselves on shorter timeframes only.
The key support and resistance can be seen on all timeframes. We are not, however restricted to trading the levels only on the timeframe that they have come from. A key level plotted on a daily time frame will be a good trading point on a 5-minute chart.
As a rule of thumb, a high swing point, signifying a resistance level is a high bar/candle with two or more lower bars/candles either side. A low swing point, signifying a resistance level is a low bar/candle with two or more higher bars/candles on either side.
Tips for plotting levels
The best support and resistance levels are always the most obvious. Ideally you want to trade levels that many other traders and institutions around the world want to trade as well.
- Less is more, only plot significant levels
- Consider all support and resistance levels as zones rather than exact prices
- Keep it simple and uncluttered
- Mainly use daily timeframe plus some one-hour timeframe.
Example of using daily support and resistance levels for trading on Gold 5 min chart
The 5-minute chart above shows simple price action with previous support and resistance levels plotted on the daily timeframe. These gave a good number of trading opportunities over one day.
Our Master Trader Video Training Series is available to all members and explains trading support and resistance levels in some detail. This training is supported by the learning available everyday our Live Trade Room.
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View Simon’s video on Technical Analysis.
Learn more about Support and Resistance levels with Investopedia.
