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CO11 - Introduction to Forex Support and Resistance

"No matter what type of technical analysis that you use, support and resistance is something that you cannot get away from. This is because of the nature of the way the markets work. Generally, support and resistance as the name suggests offers support or resists price. Identifying support and resistance levels before time can potentially give you trading opportunities. Many beginners in forex think that support and resistance levels are complex. There is some subjectivity involved, but once you have enough practice, plotting support and resistance levels should become easy. It is important that the trader has a good understanding of the concepts of support and resistance because even if you are trading with technical indicators, they all rely on the concept of support and resistance which comes from price itself. In this article, we give the basics of what support and resistance levels mean and an example of how price behaves to these levels."

Support and resistance are two of the most commonly used concepts in technical analysis. Price does not move in a straight line, but rather moves in a zig-zag fashion. The way these zig-zag price movements are a result of price moving between support and resistance levels.

Support and resistance is called by different names. They are also known as demand and supply area. When there is demand for a particular asset, the price of the asset starts to rise. Due to the demand, price does not fall below the demand price. This is nothing but support.

Conversely, a supply price or resistance is where there is a supply of the asset. The excess of the asset leads to price being discounting. When supply outstrips demand, price of the asset tends to fall.

In the forex markets, the currency pairs move across levels of supply and demand or resistance and support. Traders use the support and resistance level in order to identify the price areas when traders can buy or sell.

The first chart below shows the support and resistance levels in action. The green line is the support or the demand area and the red line is the resistance or the supply area.

CO11 01 Support Resistance

Example of support and resistance

 

In the above chart, the red line on the top shows the resistance area. You will see how price attempted to test and breakout from this resistance area a second time but failed. This failure led to a break down in price. That is resistance level in action.

The next line is plotted in black. Because this level previously served as support. But price broke down from this level eventually.

Finally, the green line is the support area. You can see how price is reversing from this level.

An important aspect to remember is that support and resistance levels can break and they can also flip. A breached support level can act as resistance and a breached resistance level can act as support.

Which is why the middle line was plotted as a black line. Because this level which served as a support level previously is now likely to act as resistance.

The support and resistance levels also tend to change. They also lose their relevance over time if price continues to consolidate or starts making new support and resistance levels.

These levels form across all time frames. Typically, a monthly or a weekly support level is more stronger compared to the daily or the intraday chart time frames.

Traders can analyze the price chart and plot the support and resistance levels. Then, depending on how price behaves near these levels, long or short positions are taken. Because price tends to rise from a support level, long positions are often taken here. Similarly, price fails to breakout higher from the resistance area. Therefore, short positions are taken at the resistance levels.

The support and resistance levels can also be used as target or take profit levels. Especially if price is moving from a support area to resistance or from resistance area to support.

No matter what approach you make use of, technical analysis always falls back upon support and resistance levels. For example, the 200-day moving average is known to act as a dynamic support and resistance level some of the time.

Even if you look at the oscillator indicators which gives you buy and sell signals based on overbought or oversold levels, you can see that many times these conditions change when price moves closer to a support or a resistance area.

Therefore, it is important that traders have a good understanding of plotting the support and resistance levels on the chart. It might seem a bit complex at first but with practice, you will be able to plot the support and resistance areas with relative ease.

Some of the tips for starters is to use round numbers. Round numbers are price levels that end with 0. These levels tend to act as price magnets. Thus, by analyzing past price action, you can identify the potential areas where price could start to reverse.

You can also look at the levels where price reversed previously and use these as potential support and resistance levels. Note that the support and resistance levels are the strongest on the first time that they are tested. In some cases, price will test a support or a resistance area multiple times as well. The more number of times price is tested, the less relevant the support and resistance areas get as they can easily be breached.

Read 889 times Last modified on Thursday, 04 July 2019 11:31

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