Support and resistance
Forex experts have been using the support and resistance concept for a very long time. It is the basis of all technical analysis associated with forex trading. Most of you are probably aware of the age-old saying, ‘sell high and buy low’, and new Forex traders often wonder what high and low means exactly in the context of Forex quotes. One way you can determine these levels is by monitoring areas where a price stops and changes its direction. The place where a price halts after moving upwards and turning around later, is described as Resistance.
Resistance is what caps rates from advancing further by acting as a ceiling. In this article, we will discuss what support and resistance are and the role they play in forex trading.
What are Support and Resistance?
Support occurs when falling prices change direction after stopping, and then start to rise. Traders often use the term ‘floor’ when referring to support. Why? Because it holds prices up.
Resistance, on the other hand, is a level where you see rising prices stop in their tracks, change levels, and start falling. Forex experts refer to it as a ‘ceiling’ because it prevents forex prices from increasing.
In most cases, when a price breaks resistance or support, it often moves towards the next level. If you are new to trading, you may find it surprising that these levels are never exact. Most of the time, they are zones that cover a minor realm of prices, allowing for some price pierces or breaches without the levels breaking. Because of this, resistance/support levels help people identify probable points where they could consider changing directions.
Minor support or resistance causes temporary channels in falling or rising prices in broad market trends. Meanwhile, major support or resistance stop prices from falling altogether, which leads to falls, surges, or the change of direction in large forex markets.
Small price support/resistance is an artificially created horizontal line on the chart that represents the area that served as resistance or support for previous prices. However, you must know how to read various charts to get a better grip on how things work.
Analysing material that explains support and resistance is vital for each forex trader. You should learn the three fundamental chart types; line charts, bars, and candlesticks.
How to identify Support and Resistance Levels?
You can utilise several techniques to determine Resistance and Support levels. Let us look at some conventional methods that traders use:
Moving averages are a remarkably convenient way to identify Support and Resistance levels. Whenever there is a downtrend, moving average lines often act as resistance. It causes prices to bounce off the MA and fall. During an uptrend, however, moving averages tend to provide support. Forex trading experts often refer to this as dynamic support, because levels tend to change every time there is a movement in the moving average.
Utilising previous timeframes
You can make use of higher timeframes to find different levels. Let’s say that you are using a 15-minute time frame. Start by observing a one-hour chart and incorporate what you learn into a shorter period.
Once you start getting the hang of this, you can increase the time frame to four hours, and take your resistance and support levels to another 15-minute chart. Keep in mind that if the levels from higher time frames match with the ones of lower periods, they will provide sturdier resistance support as they would have the same price levels.
Peaks and Troughs
When you open the chart present in your preferred time frame, try and identify the charts highest peak and highlight it as ATH, which stands for All-Time High. After this, look for the chart bottom, and once you find it, mark it as ATL (All-time low).
Mark each trough and peak with a short line, available in your platform chart tools. As far as downtrends go, the lower highs are resistance levels, while higher lows are support levels. Uptrends, however, are entirely different; every higher trough indicates a support level, whereas a consecutive higher peak determines a resistance level.
How to draw Support and Resistance Lines?
Although there are several variables linked with drawing resistance and support lines, here are some things you must keep in mind:
Where should you start drawing these Lines?
Firstly, there aren’t any hard or fast rules regarding how one should draw resistance lines. In most cases, younger levels turn out to be more relevant in comparison to older ones. The reason is that younger ones represent current prices where the market has been facing difficulties in breaking above or below.
In case you are using high time frames, especially weekly ones, start focusing on the previous twelve months of data to help you determine your potential swing lows and swing highs.
Drawing Support and Resistance Lines in short periods
It does not matter when you plan to draw resistance and support lines; what’s more important is that you follow the same principles for every timeframe. Bear in mind, however, that these levels on high timeframes are significantly more successful than fifteen minutes or other small periods.
Drawing Resistance and Support Lines on Candlestick Charts
Most traders agree that these charts offer you an excellent option to study support and resistance levels. A candlestick’s body represents the closing and opening prices along with lower wick and upper wick, representing lows and highs in trading sessions. Traders can utilise the candles to draw resistance and support lines on a specific chart.
How to Trade with Support and Resistance?
Forex traders often notice that prices tend to break out soon after an uncertain period, especially when there is no specific price direction. You can search for opportunities like these to potentially capitalise on the rapidly increasing momentum. Experts also predict that a continuation could give dawn to a new trend.
However, you should avoid falling into the trading trap of false breakouts. You can do this by waiting for pullbacks before making any commitment.
The Trendline Strategy
In this strategy, you take advantage of the trendline as resistance or support. (A trendline cannot act as both). In this method, you create a line that connects multiple downtrend highs or uptrend lows. If the trend is strong enough, the price will keep on moving in the trend’s direction by deflecting from the trendline.
Range trading occurs in between resistance and support, as traders look to sell at resistance and buy at support. Imagine the area in between Resistance and Support as a large room with the former being the ceiling and the latter being the floor. You will notice that price ranges appear sideways in most trading markets. They often start forming when there are no indications or expectations for a trend.