Techincal Analysis - Basics of Support And Resistance

Support And Resistance

You'll often hear technical analysts talk about the ongoing battle at  price points  of resistance and support between the bulls and the bears, or the struggle between buyers (demand) and sellers (supply). This is because the prices of a security seldom move above (resistance) or below (support).

Why it Happen?
Support and Resistance levels are seen as important in terms of market psychology and supply and demand. Support and resistance levels are the levels at which a lot of traders are willing to buy the stock (in the case of a support) or sell it (in the case of resistance). When these trendlines are broken, the supply and demand and the psychology behind the stock's movements is thought to have shifted, in which case new levels of support and resistance will be established.

Importance of Round Numbers for  Support and Resistance
One type of universal support and resistance that tends to be seen across a large number of securities is round numbers. Round numbers like 10, 20, 50, 100, 250, 500 and 1,000 tend be important in support and resistance levels because they often represent the major psychological turning points at which many traders will make buy or sell decisions.

Buyers will often purchase large amounts of stock once the price starts to fall toward a major round number such as Rs.50, Rs.100 which makes it more difficult for shares to fall below the level. On the other hand, sellers start to sell off a stock as it moves toward a round number peak such as, Rs.100 or Rs.1000 making it difficult to move past this upper level as well. It is the increased buying and selling pressure and major psychological points at these levels that makes them important points of support and resistance.

Once a resistance or support level is broken, its role is reversed. If the price falls below a support level, that level will become resistance. If the price rises above a resistance level, it will often become support. As the price moves past a level of support or resistance, it is thought that supply and demand has shifted, causing the breached level to reverse its role. For a true reversal to occur, however, it is important that the price make a strong move through either the support or resistance.

The Importance of Support and Resistance
Support and resistance analysis is an important because it can be used to make trading decisions and identify when a trend is reversing. For example, if a trader identifies an important level of resistance that has been tested several times but never broken, they may decide to take profits as the security moves toward this point because it is unlikely that it will move past this level.

Support and resistance levels both test and confirm trends and need to be monitored by anyone who uses technical analysis. As long as the price of the share remains between these levels of support and resistance, the trend is likely to continue. It is important to note, however, that a break beyond a level of support or resistance does not always have to be a reversal.

Being aware of these important support and resistance points should affect the way that you trade a stock. Traders should avoid placing orders at these major points, as the area around them is usually marked by a lot of volatility. 

If you feel confident about making a trade near a support or resistance level, it is important that you follow this simple rule: do not place orders directly at the support or resistance level. This is because in many cases, the price never actually reaches the whole number, but flirts with it instead. 

So if you're bullish on a stock that is moving toward an important support level, do not place the trade at the support level.

 Instead, place it above the support level, but within a few points. On the other hand, if you are placing stops or short selling, set up your trade price at or below the level of support.