Breaking Down Support and Resistance

Meir Barak  |

Resistance.jpg

When technical analysts talk about support and resistance, they are usually referring to “lines of support and resistance,” but, as is presented further on, support and resistance can also be found at high and low points, in moving averages, and in round numbers. Support and resistance are also linked to another phrase: breakouts and breakdowns.

In the early 20th century, many stock traders began to acknowledge that a stock needs to break out from, or break down “even the smallest resistance” in order for it to be traded. In those days, traders were not assisted by charts or other technical tools, and only used support and resistance. They remembered and wrote down the highs and lows, and related to them as points of future support and resistance. Even traders on the NYSE trading floor, who in the past had traded using hand signals, did not use any kind of chart. Instead, they used areas of support and resistance. These traders can hardly be suspected of unprofessionalism.

Identifying areas of support and resistance in a stock, then, is vital to traders when analyzing the trend and determining their entry and exit points. As already noted, professional traders are always interested in knowing the balance of power between buyers and sellers, and these areas indicate turning points in the balance.

What we Mean by “Support and Resistance”

In the support area, the majority think that the stock’s price is cheap.

In the resistance area, the majority feel that the stock’s price is expensive.

Professional traders seek to buy a stock on the way up after it breaks through the area of resistance, and will seek to short (sell) when a stock breaks through the area of support.

I want to emphasize that these are areas, not lines, of support and resistance. The term “line” represents a rigid, unfeasible reality. Is it reasonable that all people active in the market will constantly buy at the same support price and always sell at the same resistance price? Of course not. This is even truer for a large market. Additionally, as noted, the principles of technical analysis are known to all people active in the market, and frequently, “lines” will be broken out purposely in order to execute automatic buy and sell orders fed into computers, or to tempt innocent traders into buying and selling a stock.

Let’s examine this rule using the following charts and try to understand how the rule operates:

Resistance becomes support for three reasons:

If a stock drops back down to its “retest” point [3], then all the traders have a common interest: to buy. This shared interest is what turns resistance into support.

Support – Turning into Resistance

support-to-resist

Why does support turn into resistance? For the exact reverse reasons to those detailed above:

If a stock rises to its retest point [3], it will usually encounter resistance originating in the common interest of all those operating in the market at the time: sellers. This shared interest turns support into resistance.



To learn more about the stock market and to begin your own journey toward financial independence, visit Meir Barak's site Tradenet and check out his book "The Market Whisperer."

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer

Comments

Emerging Growth

Invictus MD Strategies Corp

Invictus MD Strategies Corp is focused on two main verticals within the Canadian cannabis sector under the Access to Cannabis for Medical Purposes Regulations having investment in Acreage Pharms Ltd.,…