How to correctly identify support and resistance lines. Correct support and resistance levels
First, let's look at the definition of what a strong level is. It must meet one or more of the following criteria:
- Multiple price bounces
- Maybe not multiple times, but significant price bounces, the formation of price extremes
- Levels on higher timeframes like D1, W1 or even MN
- Merging levels, when transitional (reversing) + round + dynamic levels overlap one another are also considered significant, can occur in different combinations.
In general, the principle is that:
- The level is the more significant, the higher the TF it is formed and the more of the above criteria it meets.
As we know from the previous material, which I recommended to watch before reading this article, the price bounces off a strong level more often than breaks it. In the end, most likely, it will be broken, but before that there may be either 1-2 significant bounces, or many smaller ones. Knowing this pattern, you can use it.
Building Strong Levels
Based on this, it is best to start marking on the chart from senior TF. But, if you trade, for example, on M15, does it make sense for you to climb on MN (month) and mark the levels there? Only if the price really can reach one of them in the foreseeable future. The same with TF W1 (weekly), we mark up there only if they can be achieved in the foreseeable future.
So, if you trade intraday and the trade life usually does not exceed a couple of hours, then it makes no sense to waste time marking weekly charts that are several thousand points away from the current price, anyway, the price will not reach there in the near future.
A simple principle follows from this: in order not to litter the chart, we mark the nearest levels that will matter in the foreseeable future.
step by step algorithm
So, the basic principles have been discussed, now step by step algorithm. Let's say I'm trading on M15, I'll start marking from the W1 chart, I'll ignore MN, since the nearest level there is almost 4000 points away from me.
Now I switch to W1 and see what we have there. There is a confluence of dynamic levels (moving averages). I used 200, 50, 35 and 15 EMA periods, but these are not the only correct values, just familiar to me. Since we have a confluence, we can consider this a level worthy of attention. Yes, and the price is very close to it, so mark it, I will do it in black.
Important: remember that you can change the colors of the lines in the settings, thus visually separating strong support and resistance levels from weaker ones, for example, marked on lower timeframes.
Now I turn to the TF below - D1. Here I see that the dynamic level I noted on the weekly chart is also confirmed by the merging of dynamic levels and on this timeframe we are talking about the same moving averages. This is a good signal that he is strong enough. In addition, let's note the nearest local level, from which the price bounced many times. Plus one more, no longer local, since it is also quite close to the price, the price bounced off it many times and these bounces were significant, plus TF D1 is high and the levels marked on it are important. I will leave the color of these strong PS levels black. Let's move on to the TF below - it will be H4.
I will note the merging of dynamic levels on H4, I also draw your attention to the fact that it has been repeatedly tested on both sides, i.e. this is a transitional level. I will change the color of the line for convenience, let it be green. We go down another TF lower - H1.
Here again I see confirmation from dynamic levels: the green line merges with moving averages. Plus, I decided to add one more, I marked it with a dotted line. It is close to the price, that is, it is relevant and it makes sense to mark it, plus the price reacted to it more than once. We pass to the next TF - M30.
There is nothing more to add here, I just mentally note that the “green” level is again confirmed by the confluence of the moving averages. Finally, I switch to my trading TF M15.
Here you can note a couple of levels, but they will already be much weaker than the previous one. They will have less impact on the price, the bounces will be much less significant. I will mark them with red lines.
This was my algorithm, my logical reasoning when marking strong support-resistance levels. I emphasize once again that this is not the only right way, each trader eventually develops his own approach, his own vision. The main thing here is to understand the basic rules and principles that we have considered.
Determining and building levels is a logical process, you need to reason and watch the price reaction. Confidence here comes with experience, you just need to practice, draw an eye. Practice on different currency pairs, on different time frames, and over time everything will turn out automatically.
Support and resistance levels in the video
The logical markup process is shown in the video, it is much more convenient to demonstrate it there, be sure to check it out.
Support and resistance levels are important concepts in foreign exchange market, awareness of which not only allows you to see graphic shapes, but also helps in determining the trend. An assessment of the strength of these levels becomes a weighty basis for predicting a trend and for determining its reversal point.
What is a support level?
A level or Support is a price indicator; strong buy positions are gathered within it, which can not only stop a downtrend, but also turn it in the opposite direction. When a downtrend reaches support, it is like a diver who, reaching the bottom, repels himself from it. The level on the chart has a horizontal position. Levels are formed if horizontal lines are drawn through the price consolidation areas. The line is below the price and will be support, it is there that the sellers cannot overpower the buyers. Quite often it happens that support and resistance levels change places, so the definition of support as a level becomes relevant for resistance. The strength of the levels increases as prices bounce off them.
What is a resistance level?
Level or Resistance is a price indicator, on the basis of which a fairly large number of sell positions are concentrated. They are enough not only to stop the uptrend, but also to reverse it. As soon as the price reaches resistance, it bounces off it and turns in the opposite direction. Resistance can be either horizontal or almost horizontal. It is most effective to build support and resistance levels in the extreme parts of the consolidation areas, or Congestion Zones. The use of maximum and minimum price indicators for this purpose is not very effective. The outskirts of consolidation zones make it clear where strong market participants have changed their minds. Local lows and highs are just a panic of small traders. A strong resistance level, in fact, as well as support, causes a trend reversal. Weak levels only stop the trend. Traders in most situations sell assets when prices hit resistance and buy when prices hit support.
What creates levels?
Before identifying support and resistance levels, you need to understand that these are the price indicators at which most of the buying or selling in history has been made. Traders, remembering the highs and lows, when the market reaches them again, without hesitation, open positions to buy or sell again. These are peculiar key moments that have shown themselves well in history. Hoping to get guaranteed profit all participants are waiting for a certain price value, from which a strong movement was observed earlier. We can say that the development of the lines depends to a greater extent on the traders themselves and on the actions that they perform within a certain range.
Definition of levels
Support and resistance levels are key areas where there is a balance between buyers and sellers, where the forces of supply and demand are balanced. In the financial market, with an increase in supply, a falling trend is formed, and with an increase in demand, a growing trend is formed. In a balanced format, you can observe a side trend, price movement in a certain price channel. Support will be located in the area where the demand for a trading asset is formed, preventing its price from falling. From a logical point of view, the phenomenon is explained very simply. As soon as the price drops to a certain level, buyers become interested in buying. At the same time, sellers are running out of strength to move the price down.
Resistance is the opposite. If you look at the technical side of the issue, then the support and resistance levels for each day are the places where the largest number of buy and sell orders are concentrated, which are triggered and immediately correct the movement. We can say that support and resistance are lines that connect highs and lows of the same price.
Trading range
There are situations when the construction of support and resistance levels must be carried out simultaneously, since they are formed in parallel, creating a certain trading range, or Trading Range. It is also known as the consolidation zone. In technical analysis, the phenomenon is known as a certain figure - a rectangle, indicating the continuation of the trend. There is a high probability that prices will be fixed in this range for quite a long time. This is due to a large concentration of orders for both buying and selling at the corridor boundaries. The exit of the asset price outside the corridor is a very significant signal for the trader.
When the price fixes behind the support line, a strong downtrend begins. When the consolidation occurs above the resistance level, then it is time to follow the uptrend. The correct identification of support and resistance levels in tandem with other signals, such as an increase in volume or the formation of a gap, makes it possible to jump into a trend at the very beginning of it.
Flow of support into resistance and vice versa
One of the basic rules technical analysis says that after breaking through the resistance level, the latter turns into support, and when the support is broken, it becomes resistance. The breakout of resistance indicates the formation of a large demand for a certain trading instrument in the market, which is reflected in the form of price growth. It is highly likely that when the price drops to this level again, buyers will become active and will again push the chart up.
When the support line is broken, the situation is reversed. Supply exceeds demand, causing prices to fall. When the price reaches the broken level, sellers will again begin to act actively. This pattern of behavior of trading assets is known as a level retest. It is often used in trading strategies. Trading from support and resistance levels in this format is attractive minimal risk and relatively high profits.
Zone definition
It is important to note that technical analysis is not an exact science. The final decision of most traders is based on subjective judgments and assumptions. Moreover, in practice, highs and lows that are identical in height are quite rare. That is why traders learn not only how to determine support and resistance levels, but also work with such a concept as zones, which can be called price reversal ranges. The use of zones and levels is determined by each specific situation. Experts recommend working with horizontal lines if prices move in a narrow range for no more than two months. Level zones are relevant where there is a wide range of motion
Indicators
Support and resistance do not have to be built on your own. There are many technical analysis tools that can do this job for the trader. For MT4 and MT5 terminals, there are a huge number of tools that independently draw support and resistance levels for each asset. A forex indicator that works with "mono" levels can be found in the public domain on the Internet, and it is activated by installing it in the terminal.
When working with these applications, it is worth remembering that levels never make predictions, they are formed based on history. Thus, there is the same probability of both south and north price movement. Using supporting signals such as volumes, COT reports, spot market trades and others will help set the direction.
The most popular level indicators
There are a huge number of indicators on the Internet, it is worth getting acquainted with the most popular of them:
- ACD is engaged in the automatic construction of levels based on the generated price channel. The indicator gives a clear understanding of the trend and market conditions.
- Countback line is engaged in the construction of lines of two colors: blue and red. Calculations are based on price chart highs and lows.
- Distributive Pricing works great on the H1 timeframe. The indicator draws indications of the price impulse in the format of two red lines, which give signals to enter the market.
- Grid Builder builds psychological levels. More often, the price bounces off the indicator lines, much less often it breaks them.
The main disadvantage of such indicators is that when the trading time interval changes, the levels are completely redrawn.
How to determine how strong a level is?
At support and resistance levels, it is built on the basis of an analysis of the strength of those same levels. According to one of the classics of "Forex" Murphy, the level will be the stronger, the longer the prices fluctuated in its range. Strength increases as volumes increase and as the level is used for longer. Elder considers the level as strong or weak depending on how many times the price has touched it. The opinions of well-known traders differ in terms of building levels. Thomas Demark talks about building levels by reference points, while Schwager is guided by highs and lows when building horizontals. It is widely believed among the classics that it is not enough to know how to build support and resistance levels. You need to work with key zones, areas near the levels. Despite the divergence of opinions, each of the theorists is a successful participant in trading in the market.
conclusions
Trading from support and resistance levels without the use of auxiliary tools, even if the lines are built perfectly, will not bring a positive result. Levels are just price values from which a strong movement is expected. The probability of price movement up or down is 50/50. Without auxiliary tools, trading turns into roulette. At the same time, it is worth considering that it is the support and resistance lines that underlie numerous profitable trading strategies.
Support and resistance lines are the foundation of technical analysis. Any patterns and patterns that you see on price charts are just certain combinations of support and resistance lines.
This tool is used by all traders without exception. Therefore, the primary task of every newcomer to stock trading is how to understand the issue. In this article, "Opening Broker" will tell you what support and resistance lines are, what they are for and how to build them correctly.
Basic concepts
In fact, support and resistance lines are a graphic representation of the fight between buyers (bulls) and sellers (bears). The first push prices up, the second - down. And the overall outcome of the struggle depends on which direction the price moves.
Support is the level at which bulls control prices and prevent them from falling further. Resistance is the level at which bears control prices. If the price suits both of them, you can make a deal. Support levels reflect the price that gives the investor hope for an increase. Resistance levels act the other way around - they show the price from which the investor expects a decline.
Determining the strength of a trend
One of the main purposes of the tool is to help determine the strength of a trend. And this is worth talking about in more detail.
A trend is a visually determined rise or fall in price. Trends are divided into two types: ascending and descending. In the first case, there is a consistent increase in the lows, in the second, a consistent decrease in the highs. For reference, the minimum is a visually determined short-term trend change from falling to rising, the maximum is from rising to falling.
Now about how to determine the strength of a trend using support and resistance levels. For example, if you notice that an uptrend has approached the resistance level as close as possible, then rolled back a little, and then it grew again and broke through the level, feel free to buy. Such a trend is strong, and the prices of its assets will certainly rise.
The same is true for a downtrend. If you see that it “breaks through” the support level on the second or third attempt, sell rather: the trend is strong, which means that the price will go down.
Supply and demand
Support and resistance levels are also used to determine supply and demand. Let's see how it works.
Recall the elementary course in economics, which tells about the lines of supply and demand. Demand lines show volume financial instrument that buyers are willing to purchase at a specified price. But if it starts to grow, the number of potential buyers decreases. The supply lines show how much of the “goods” sellers are willing to supply at a fixed price. An increase in price provokes an increase in the number of sellers.
The supply and demand lines show how many buyers and sellers are willing to make a deal on set price. In a free market, these levels shift all the time: depending on the expectations of investors, prices change that suit sellers and buyers.
When the resistance level is broken, the demand line shifts upwards, which indicates an increase in the number of people willing to buy at a higher price. If the support level is broken, the supply line moves down.
Traders remorse
Often, after a breakout of support and resistance levels, traders wonder if the new prices are in line with reality. And if the cost seems unreasonable to them, they start buying or selling, depending on which level has broken through. This phenomenon is called "traders' remorse" and causes prices to return to support or resistance after a breakout. But sometimes the opposite happens as traders accept the new price and it continues to move in the direction of the breakout.
In the first case, when traders "repented" and considered the price unreasonable, a "bull trap" occurs. The second is a bear trap.
From resistance to support
If the resistance level is successfully broken, it becomes support. The reason for this phenomenon is in the behavior of the bulls. Having given up buying at low prices at the time, they make up for lost time - they buy when prices return to the previous level after a breakout.
If prices fall past a support level, it can become resistance. How closer price to the previous support level, the more actively investors begin to sell.
Building support and resistance lines
Let's move on to the most important question that worries all novice traders - how to draw support and resistance lines.
The support line is drawn along two or more lows, has a positive slope relative to the time axis and is directed to the future. Relatively speaking, two points are enough to draw it. The first low is formed at the very beginning, when the trend starts to grow. The second - after the small traders have received their profits, and large investors have entered the game. Prices begin to rise again, due to which another low is formed. Already on these two points, you can draw a support line.
Unlike support, the construction of resistance lines is based on highs. The resistance line has a negative slope relative to the horizontal axis and is directed to the future.
The degree of importance of support and resistance lines is classified according to four main parameters:
- time scale;
- duration;
- the number of touches;
- tilt angle.
The larger the time scale, the more important the line. In other words, the lines on the weekly chart are more important than those on the daily chart.
The duration of the constructed support or resistance line is also of great importance. The longer it is, the more reliable it is as a reversal signal in the event of a breakdown, and the less reliable it is as a guideline accompanying the current trend.
The same can be said about the number of touches - the more there are, the more reliable the line. Relatively speaking, the third point makes it more significant, and the fourth and fifth show that the group that dominates the market has significant potential. The angle of inclination between the line and the horizontal axis shows how strong emotions reign in the market. The steeper the line, the faster the trend develops.
As you can see, drawing support and resistance lines is quite simple. It is much more difficult to learn how to work with them. But here everything depends only on you: the more you practice, the sooner you will master this science.
Any person, regardless of the type of activity, loves round numbers. This is especially evident when the number ends with two or three zeros. The desire for "anniversary" numbers is laid down by genetics. Financial market in this respect is no exception.
No trader will tell you that the price of an asset will be 1.2345 or 1.1406. You will be told that the price will soon reach 1.2300 or 1.1400. The same happens when opening deals. Such trading will create support and resistance levels in the places of round prices.
The most common psychological levels are those with two 00s at the end (for example, 1.5800). A price channel with three 000 would be a stronger level than the previous one (eg 1.5000 or 110.00). And finally the most powerful ones with 0000 zeros (2.0000 or 200.0).
An example shows the location of these psychological barriers:
Price fluctuation level
Here you need to put a mark in places where the price overcame the price with difficulty. Since the price is constantly moving up / down, a bounce can further help determine the beginning of the level in the near future. If the price makes a similar rebound when it subsequently approaches this price, then it is already possible to confidently build a support or resistance line.
Such a manual method is quite difficult to master, and it takes a long time to build it, but long-term trading in the built channel will undoubtedly bring many profitable trades.
The example shows that the red circle was drawn at the next peak price value. In the future, the price again reaches this value and rebounds - draw white circles. It won't always work out so perfectly, but you should still be able to see the general direction of the line.
Trading along support and resistance lines is one of the most effective methods of making money in the financial markets.
Pivot Point
The pivot is the reference point of the built-in indicator. Majority trading terminals have at their disposal the means of technical analysis. There is a tool that will draw price levels for you without the intervention of a trader.
In trading practice, the following situation often occurs: the price, having reached a certain level, rolls back, then again tries to overcome this level or even reverses. This may be due to the accumulation of a large number of stop orders or pending orders at a given level, or be purely psychological in nature. Be that as it may, such levels take place and they are called support levels and resistance levels.
Introduction
The support level differs from the resistance level in that it is located below the price, as if supporting it and preventing it from falling below its value (see Fig. 1). And the resistance level, respectively, is located above the price and does not allow it to grow above its value (see Fig. 2).
Fig.1. Support Level
Fig.2. Resistance level
Support and resistance levels are stronger the higher they are. Also, the support level after it is broken often turns into a resistance level. Conversely, a broken resistance level often becomes a new support level.
For example, in Figure 2, the price every time "bounces" from the value of 1.3000. This can be caused, for example, by the fact that many large traders and investors fix their profits at this mark. Those. their long positions at the 1.3000 level are set to take profit orders, and when the price reaches it, these positions are closed by selling short, thereby moving the price currency pair USD /CAD down.
How is a level different from a line?
The essence of the lines and levels of support and resistance is the same. Both of them play the role of a border, beyond which it is very difficult for the price to break through. Levels are usually called horizontal lines on a price chart corresponding to a certain price value, and support and resistance lines pass at a certain angle, thus being a kind of linear function of price versus time.
We can say that levels are a special case of support and resistance lines with a price equal to a constant.
Support and resistance lines are constantly found on price charts when identifying a trend or various figures of technical analysis. Take a look at the picture below:
Resistance and Support in Technical Analysis Patterns
Absolutely all figures of technical analysis are based on support and resistance lines. Any figure (whether it is a reversal pattern or a trend continuation figure) implies breaking through one or another level (line) as a signal of its completion. I would even say that the figure of technical analysis is nothing more than a special case of applying support/resistance lines. Take a look for yourself:
The figure shows just a few examples, but if you wish, you can, after reading the description and trading strategy for any of the patterns, find out that it is based on the same good old support and resistance lines.
Mutual transformations of levels
In 90% of cases, the so-called mutual transformation of levels occurs - when support turns into resistance and vice versa, when resistance becomes support. This is especially true for strong levels that the price tested for a long time and rolled back from them many times before finally breaking through them.
How resistance becomes support
Having broken through the resistance level, the price, in the future, may roll back to it, but (if the breakdown was true) then again returns to growth. Thus, the level that used to be resistance becomes support.
The following main factors contribute to this metamorphosis:
- Traders who did not have time to enter the growing market at the most favorable price (immediately after breaking through the level), begin to catch up and open long positions on the price rollback;
- Those of the traders who entered short positions even when the level in question was resistance tend to close at breakeven, which, in turn, pushes the price up (after all, we remember that closing a short position is nothing more than opening long position of the same volume).
How support turns into resistance
A similar situation occurs when a support level becomes a new resistance level. This is facilitated by the following behavior of the players:
- Those traders who did not have time to open short positions at the moment of the breakdown of the support level, open them on a rollback. Many traders who have already entered selling at a lower price are now averaging out adding short positions at a better rate;
- Traders who previously opened long positions (when the level in question was still support) tend to close them at breakeven.
False breakdown of the level
This situation is sometimes referred to as "traders' remorse". Its essence is that the price first breaks through price level, and then, not finding sufficient support from market players, it comes back.
When a resistance level is broken, traders wonder if the new price the true value of the traded financial instrument? And when most of them come to the conclusion that the price is clearly too high, massive sales begin, and the price, accordingly, moves down, back to the level that was broken just now. This scenario is called a “bull trap”, because after breaking through the resistance level, many traders entered long positions, and after the price returned back, almost all of them suffered losses, closing in the footsteps.
A similar situation may arise after the breakdown of the support level. In this case, traders think about whether the price is too low? When most players come to the conclusion that the price is indeed quite low, and therefore a very attractive buying opportunity, the price begins to rise, moving back beyond the support level. This scenario is called a “bear trap”, for the reason that the bears, who opened short positions after the level was broken, then (after the price returned back) suffered losses.
The surest way to make sure that the breakdown was not a false one is to wait until the level reverses (i.e. until support turns into resistance or, conversely, resistance into support). To do this, after the breakdown of the level, you should wait until the price rolls back to it, and then reflects from it (thus confirming the truth of the breakdown). But it should be borne in mind that in the event of a breakdown of strong levels, it is not uncommon for the price to rush in the direction of the breakdown without even thinking of rolling back. Thus, it is possible to miss quite powerful price movements, potentially capable of generating huge profits.
How to draw resistance and support lines correctly
The support line is built on two successive lows, the third low serves as a confirmation of the constructed line. The resistance line is built on two highs, and the third high is considered to be its confirmation. Many sources indicate that the support line should have a positive angle of slope (i.e., it should be directed upwards), and the resistance line should be directed downwards. I think this is not entirely correct.
These lines can be tilted as you like to the time axis (they can look both up and down). Take, for example, the neck line on the classic Head and Shoulders pattern, it often has a negative slope, although in essence it is a support line.
Another thing is if we are talking about trend lines. In this case, indeed, the angle of inclination matters. So the uptrend line is nothing more than a support line directed upwards (with a positive angle of inclination). Well, the line downtrend this, respectively, is a downward resistance line (with a negative slope).
The trend line is another special case of support/resistance lines. For an uptrend, it is built on the lows and directed upwards, for a downtrend, on the highs and directed downwards.
All lines constructed in this way can be classified according to the degree of importance (or strength) as follows:
- The larger the time interval (timeframe) of the chart on which the line is drawn, the stronger it is considered. So the support line, built on the daily chart, follows in without fail take into account when analyzing lower timeframes.
- The longer the line and the more touches by its price, the more likely it is to be broken. Here it is important to catch a certain golden mean, the third point of contact confirms the line, speaking about its truth and reliability, but further, with an increase in the number of touches, the reliability of the line gradually decreases.
Areas of support and resistance
I must say that the level, in itself, is a rather subjective concept. Everyone looks at the chart in their own way, and therefore the levels built by different traders may differ slightly from each other. Therefore, support/resistance lines and levels are often more correctly viewed as areas.
For example, one group of traders builds the resistance level based on the highs of the candles, the second - on the opening prices, and the third - on the lows of the candles. In this case, it would be more correct to speak not about a specific resistance level, but about a resistance area limited by the minimum and maximum values of the price candles included in it.
Basic principles of trading by levels
The main thing for a trader is, of course, how you can use this property of the price (form lines and levels) to make a profit. There is a whole direction of trading on support and resistance levels.
Based on the properties of levels discussed above, there are two main methods for their practical use:
- Trading on the rebound from the level
- Level Breakout Trading
Obviously, the first of these methods is based on the assumption that the level is strong enough and that the price will not be able to overcome it. The second method, on the contrary, is based on the assumption that sooner or later the price will break through the level, and this breakout will be accompanied by a fairly strong price movement.
Often, traders build their strategies based on two of the above assumptions at once. This is quite possible when using pending orders.
A pending order is an order to a broker to open one or another position (long or short) when the price reaches a certain predetermined value (level).
Take a look at the picture below:
As you can see, the price approached a fairly strong support level. At the same time, we place two pending orders at once, one for buying (in the expectation that the price will reflect upwards from the level), the other for selling (in the expectation that the price will break through the level and go down).
At the same time, we place Stop Loss orders at the same levels as pending orders. Only Stop Loss for buying (Buy), we set at the level of a pending order to sell (Sell Stop), and Stop Loss for selling (Sell), we set at the level of a pending order to buy (Buy Stop).
Profit taking levels ( take profit) are set at a distance from the corresponding pending orders, not less than 2…3SL.