Charting University » Support and Resistance
Support and Resistance levels are the basic structures of charting analysis where critical decisions are made in direction. A saying as old as trading itself is, "Buy at the support level and sell at the resistance level."
Support and Resistance represent key points in price where the forces of supply and demand meet. Prices are driven by excessive supply and excessive demand.
An over-supply corresponds with bears, bearishness, and selling. When there is more offered than is being purchased, price lowers.
A high demand corresponds with bulls, bullishness, and buying. As demand increases, prices advance. When supply and demand are equal, prices move flat as bulls and bears slug it out for control. This is often referred to as a sideways movement or sideways trading session.
By identifying Support and Resistance levels on your charts you will greatly enhance your trading. They are easy spot, easy to understand, and paramount when making trading decisions.
What is Support?
Support is the price level at which DEMAND holds the price from declining further. The pattern dictates that as the price declines toward support and gets cheaper, buyers become more inclined to buy and sellers become less inclined to sell. The theory being that demand will overcome supply when support is tested, and prevent the price from falling below support.
Support does not always hold and a breach below the line signals that the Bears, or sellers, have beaten the Bulls. A decline below support indicates a new willingness to sell and/or a lack of incentive to buy. New lows then signal that sellers have reduced their expectations and are willing to sell at even lower prices. Buyers will be looking for another support level to be established at a lower level before they buy in mass again.
This is a 50 Day Moving Average (DMA) line shown below, although it could be any period of time - as long as the price is tracking it. Some other popular timings are the 18/DMA, 20/DMA, 28/DMA, 100/DMA, and 200/DMA lines.
It is important to note that price movements can be volatile and dip below support briefly. This is where many traders get stopped-out of their trade. Think of these moves as rubber bands, not glass panels. Also, time frame matters in a trade when compared to the historical moves in the trading vehicle and your own risk/reward format for the trade.
A $0.25 violation of a $3.00 stock, viewed on a 3-minute chart may be a major violation. However a $1.00 violation of the 50/DMA (day moving average) of a $150 stock - may be nothing but volatility. It is all very relative. You cannot treat a $3.00 stock with the exact guidelines as you would a $150 stock.
Often, once a dip lower occurs the price moves back above the structured Support line again. This can then be looked upon as a positive sign and buyers may then come back in to buy. The opposite is also true for a break above a Resistance level.
What is Resistance?
Resistance is the price level (12,765 in our chart below) at which SUPPLY holds the price from advancing further. The pattern dictates that as the price advances toward resistance, sellers become more inclined to sell and buyers become less inclined to buy. By the time the price reaches the resistance level, it is believed that supply will overcome demand and prevent the price from rising above the resistance level.
Resistance can come from Bollinger Bands, RSI readings, Channel Lines, Multiple Topping areas, and/or at the formations of a single Japanese Candlestick formation as seen below.
Resistance does not always hold and a price move higher indicates that the Bulls, or buyers, have over-powered the Bears.
Although this is our 'Tiger Line' working on the chart below, it could be any line or period of time - as long as the price is tracking it. When you are looking at charts try to figure out what is creating the Resistance and Support. Over time you will begin to see that certain Stocks, ETFs, and Indexes tend to follow a particular setting more times than not. This will allow you to take advantage of the situation and to profit more than you may have, had you not found this out.
A build above Resistance indicates a new willingness to buy and/or a lack of incentive to sell. New highs then signal that buyers are picking up momentum. Sellers will be looking for another Resistance level to be established at a higher level, where they will hold and look to unload their shares. This essentially starts the entire process all over again.
Trading Range/Channel: "The Battle Between Support and Resistance"
The battle between Support and Resistance in known as a Trading Range, or the spread between the high and low prices traded during a period of time. When price breaks above or falls below its trading range, it usually means there is momentum building in the direction of the break.
A pricing that trades in a range for an extended period of time is referred to as a Channel. In the example above, AXL traded inside a channel of roughly $20.00 - $24.00 for nearly four months before losing Support at $20.00. Then, Price over the next ten months printed as low as $0.26 as the auto manufacturers were not selling cars and therefor did not need auto and truck drivetrains.