Support and Resistance are essential concepts in technical trading. Despite being classic, a solid understanding of these concepts can provide significant advantages in your trading strategy. Here is a complete guide to using support and resistance in trading:
1. How Price Moves
Price movements in financial markets are driven by the imbalance between supply and demand:
- Supply represents selling pressure or bearish sentiment.
- Demand represents buying pressure or bullish sentiment.
The imbalance between supply and demand affects price direction:
- Price Rises: When demand exceeds supply.
- Price Falls: When supply exceeds demand.
- Price Moves Sideways: When supply and demand are balanced.
2. What Are Support & Resistance?
- Support: This is the price level where demand is strong enough to prevent further price declines. If the price falls below the support level, it indicates that sellers are stronger, and a new support level must be established lower.
- Resistance: This is the price level where supply is sufficiently strong to halt further price increases. If the price surpasses the resistance level, it suggests that buyers are more dominant, and a new, higher resistance level needs to be set.
3. Types of Support & Resistance
There are three common types of support and resistance:
a. Classic Support & Resistance (CSR)
- CSR uses previous high and low points to determine support and resistance levels.
- How to Identify: Identify the lowest point as support and the highest point as resistance within the price cycle.
- Usage: CSR is useful for chart patterns and determining breakouts or false breaks. It is not ideal for determining all-time highs.
b. Dynamic Support & Resistance (DSR)
- DSR follows price movements with diagonal formations and is often used in ongoing trends.
- How to Identify: Use diagonal Moving Averages (such as EMA 21 & 34) to determine support and resistance. The lowest points touching the Moving Average represent support, while the highest points touching the Moving Average represent resistance.
- Usage: DSR is very effective in trending markets but should be avoided during sideways markets.
c. Harmonic Support & Resistance (HSR)
- HSR (Horizontal Support and Resistance) utilizes Fibonacci price clusters to forecast future support and resistance levels.
- How to Identify: Combine CSR and DSR to obtain more accurate price targets. HSR can be used to find distant targets and all-time highs.
- Usage: HSR is useful for setting entry and exit targets based on previous price analysis and Fibonacci patterns.
Support and resistance are highly valuable tools in technical trading, and understanding how to use them can improve your trading decisions. By recognizing the types of support and resistance, you can:
- Identify relevant price levels for entry and exit.
- Spot potential breakouts or false breaks.
- Leverage trends and price patterns for trading gains.
Applying these techniques effectively can help you make more accurate trading decisions and maximize your profit potential.
