This article discusses the difference between support and resistance levels, what they mean for a market trend, and how traders, like the experts at Saxo, can use them to their advantage.
The different analysis methods
The “support level” is a term used in technical analysis that refers to a specific price point where buyers might enter the market in anticipation of an upturn.
The “resistance level” is a term used in trading that refers to a specific price point where sellers might enter the market in anticipation of higher prices. There are several methods traders use to determine these points on different charts.
We should note that support and resistance play essential roles in the big picture and smaller time frames, so it’s often necessary to look at all supporting factors when expecting future movement.
How we measure support and resistance levels
We determine support and resistance levels by analyzing a stock or commodity price history. Once we reach a certain level, a trend may reverse.
The trader’s goal is to figure out where these points will be, thus predicting how prices may react when they reach that point.
For example, if the support for oil is at $50/bbl and it rises to $51/bbl, this might show an upturn in the market, but if the price falls back down past $50/bbl, then traders know there isn’t enough buyer interest to continue the upward momentum in the market.
Traders will look for several factors to help them decide which areas act as strong points of support or resistance:
Volume is a critical factor when deciding whether a price point will act as support. Higher volume means that there were more buyers than sellers at that point, which could show an upturn in prices.
Trading below an average volume may mean there wasn’t enough interest to push prices up, so traders should be on the watch for resistance points around this area.
Of course, it’s best to look at several other supporting factors before making any trading decisions based solely on volumes. It’s also worth noting that high-volume areas do not always show resistance points; these areas are “tested” multiple times by many traders who buy and sell at that level repeatedly without significant movement either way.
Prices supported by higher volumes remain stable, while prices that fall below-average volume may show an upturn in the market.
The importance of support and resistance levels
The proximity of support (and resistance) levels can be as important as the specific points themselves.
A price point that has acted as a consistent resistance level for months would likely continue serving this purpose unless there was enough market activity to break it down.
Traders sometimes look at previous highs and lows over time to better determine probable resistance or support levels, so they may check out how much movement occurred around points before deciding.
Sometimes traders will place orders slightly above or below specific price points where vital support areas have been identified. If their order isn’t filled within a reasonable timeframe, they usually cancel and place a new order slightly above or below the original price point.
Determining support and resistance points
There are several methods traders use to determine support and resistance points on their charts.
Support levels are where you could see accumulation in an uptrend, while resistance levels are where you expect downward pressure. Traders should expect a significant spike in volumes at these areas as trend traders attempt to break through the level and momentum traders look to make quick profits.
A support level is a price point where demand exceeds supply, resulting in a market turning – providing support for future prices. The more often the support is tested and held as support, without being broken down, the stronger the support level becomes.
In theory, an item will not fall below its cost of production because producers will ensure that price levels stay above this threshold – ensuring their profit margins remain intact. We can view support levels at round numbers (i.e., $2000), but you must also consider historical data to determine if those round numbers provide any real impact.