The idea of “support and resistance” is common in the world of trading.
There needs to be a universally accepted standard for measuring support and resistance.
Let’s start with the fundamentals.
Please take a peek at the picture we put up there. This zigzag pattern is rising (a “bull market”), as may be seen.
The prior high acts as resistance when the price rises and then corrects.
When prices hit a resistance level, there are often far more buyers than sellers.
When the price starts to rise again, the low point before it began to rise again acts as support.
Where there is an abundance of buyers is shown by support levels.
As the price goes up and down over time, resistance and support are continuously being built.
In a downward trend, however, the opposite holds true.
This is the most fundamental kind of support and resistance trading:
Trading the “Bounce”
You should buy when the price drops to a level where support is.
If the price is headed upward and approaching a level of resistance, you should sell.
Trading the “Break”
When the price breaks out over the previous range of prices, buy.
When the price drops below the level of support, that’s your cue to sell.
To “bounce” and then “break”? Wait, what? If you still need help, don’t worry; we’ll go over these ideas in more depth in the following sections.
Setting Up a Support and Resistance Chart
Keep in mind that the levels of support and resistance are not absolute.
A support or resistance level may have been broken, but further market action may reveal that it was just tested.
The “tests” of support and resistance on candlestick charts are often shown by the candle’s length of the shadow cast
Take note of how the candles’ shadows tried to find stability at the 1.4700 level.
The price action at such intervals resembled a “break” of support.
We now know that the price was only making a temporary stop there.
If support and resistance were really broken, how would we know?
This question cannot be addressed, to put it simply.
Support or resistance may be considered broken if the price moves decisively in either direction and closes below or above the level at which it first encountered resistance.
This is only sometimes the case, however, as you shall see.
Although the price had previously closed lower than the 1.4700 support level, it has moved back above.
You would be in a lot of trouble if you sold this pair because you thought it had broken out.
If you look at the chart today, you’ll find that the support was never really broken, and if anything, it’s much stronger than before.
There was a “breach” in support, although it was only temporary.
Consider support and resistance more as “zones” rather than hard figures to assist you in avoiding being fooled by false breakouts.
Support and resistance levels may be shown on a line chart instead of a candlestick chart to aid in locating these areas.
The reason for this is that candlestick charts provide a more complete view of price action than line charts, which display the closing price.
These extremes in price are sometimes little more than the market’s “knee-jerk” responses, and they may lead investors astray.
It’s like when someone does something quite unusual and when questioned about it, they say, “Sorry, it’s just a reflex.”
You don’t want the market’s knee-jerk reactions while you’re planning support and resistance. You’re just interested in planning its deliberate routes.
Your support and resistance lines should be drawn on the line chart around points where you notice the price producing many peaks or dips.
Other tidbits of information concerning support and resistance :
- include the fact that resistance may turn into support if the price moves beyond it.
- The more times the price has tested a level of resistance or support without breaking through it, the more significant that level of support or resistance has become.
- The extent of the subsequent movement, when a support or resistance level is broken, is proportional to the strength of the level being broken.
With some experience, it will become second nature to identify probable support and resistance regions in the foreign exchange market.
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