Everyone interested in trading has heard of support and resistance levels. They are an integral part of technical analysis but can also be found in other techniques like Elliott waves or Fibonacci retracement.
Support and Resistance
Support and resistance levels determine the value of future prices by drawing trendlines on past price action.
Current market dynamics will come to a place where they meet the old price levels. This meeting usually results in traders setting limit orders at these price points, which causes movement along this path until something breaks the pattern. This is called an upwards/downwards breakout.
If prices break through a support or resistance level, it doesn’t mean they will keep going forever. It often means they are testing new support/resistance levels in another time frame.
After prices break through the resistance level, they eventually return and test it as support.
When looking at support and resistance levels, you also have to consider the context of the market.
For example, in a bullish market, resistances will be higher than supports. This is because buyers are willing to pay more for a stock when demand is high. The opposite is true in a bearish market.
It’s also important to remember that not all support and resistance levels will hold. As with any other trading strategy, there is no holy grail.
Sometimes you will get stopped out of a trade, and sometimes your analysis will be wrong. But if you use support and resistance levels correctly, they can be a powerful tool in your trading arsenal.
Next, let’s take a look at how to trade using support and resistance levels. We’ll use the bullish market context mentioned earlier in the examples below.
How to trade
When prices reach a support level, you can go long by setting a buy limit order just above the support level. This means that your order will only be executed if the security price rises above the support level.
Similarly, you can go short when prices reach a resistance level by setting a sell limit order just below the resistance level. This means that your order will only be executed if the price falls below the resistance level.
In both cases, it’s essential to set a stop-loss order to protect your trade-in case the support or resistance level is broken.
So, that’s a basic introduction to support and resistance levels. As you can see, they can be a handy tool for determining the value of future prices.
But like with any other trading strategy, it’s essential to use them correctly and in the proper context. With a bit of practice, you’ll be able to use them to improve your trading results.
ADVANTAGES
Support and resistance levels are essential tools for CFD traders. They can identify potential trading opportunities and help traders manage their risks.
When security is approaching a support level, it may be indicating that the price has reached its bottom and is likely to start moving up again. A trader who buys at this point would be aiming to sell at a higher price later on to make a profit.
Similarly, when security is approaching a resistance level, it may be indicating that the price has reached its top and is likely to start moving down again.
A trader who sells at this point would be aiming to buy back at a lower price later on to make a profit. Support and Resistance levels are not to be confused with Pivot Points, which are the levels that price tends to bounce off during a trading session.
This can help determine whether or not there is much resistance between the current price and the potential new high/low.
One helpful tip for using support-resistance levels would be for traders to apply their knowledge of these critical concepts when considering entering or exiting positions on news events.
It has been proven that many currencies tend to experience increased volatility following an event release, mainly due in part because of human nature and the herd mentality.
Support and Resistance levels can measure where a currency pair may be headed shortly, as traders place their orders around these critical areas.
The use of Stop Loss and Take Profit orders can also be helpful when trading off of Support and Resistance levels. Stop Losses can be placed just below support levels, anticipating the price moving lower.
At the same time, Take Profit orders can be set above resistance levels in anticipation of the higher price.
In conclusion
Support and Resistance levels are essential tools that CFD traders can use to help them make informed trading decisions. By understanding how these levels work, traders can increase their chances of taking profitable positions and limiting their losses during times of market volatility.
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