In technical analysis, a level of resistance is an imaginary barrier that keeps the price of a security from rising beyond a certain level. Conversely, a level of support is an imaginary barrier that keeps the price of a security from falling beyond a certain level.
A resistance line can be thought of as the theoretical glass ceiling that a security price has difficulty breaking through. Resistance lines (along with moving averages, standard deviation, and similar calculations) are used to put a range of probability on the expected movement of a security price, with the resistance line representing the top of that range.
Some trading methods use two resistance lines to represent two levels of possible deviation, each of which carry connotations as trading indicators. A resistance line appears over a moving average line, which will have a support line underneath, indicating the bottom range of likely movement.
Stocks sometimes spend a while approaching resistance level prices, or crossing them, only to bounce back to a value around their moving average. If a trend carries the price through the previously defined support or resistance level, it might be called a “breakout,” in which the stock goes on to trade in a higher or lower range than it used to, and different numbers become the support and resistance. When prices break through a line of resistance, it may mean that a correction downward is on the way, or that a new upward trend has begun.
Analysts are constantly looking for chart patterns to identify trading opportunities. The Channel Down pattern is a great example. The Channel Down shows a clearly defined downtrend and describes the behavior of the price contained between downward sloping parallel lines. Lower lows and lower highs characterize this price pattern. This pattern is created via a lower trendline connecting the swing lows and an upper channel line that joins the swing highs.
A breakdown below a descending channel’s resistance line points to a continuation of the decline momentum, while a breakout above the channel’s resistance line can show a possible trend change.
When a security is presumed likely to remain within the channel, traders can make bets on price fluctuations within the channel trendline boundaries. This type of trading strategy can be particularly successful when a trader has identified a reversal followed by a breakout series pattern. Selling bets can be made when the price reaches its resistance line. Going long on the security could also be profitable when a security begins to reach its support trendline.
In technical analysis, the level of support is an imaginary barrier that keeps the price of a security from falling beyond a certain level. These levels do not have to be horizontal; the resistance and support levels can have either a positive or negative slope over time, gradually raising or lowering the barriers.
A support line represents an estimation of where a price is likely to stop moving downwards, based on recent data and analysis methods. It is arrived at with different formulas for different indicator methods, but it is generally a line derived from moving averages and standard deviation which represents a lower level at which traders would expect a price to rebound back upwards.
Several methods of technical and fundamental analysis plot a support line or two as part of a graphical representation of trends. Theoretically, a price will only deviate so far from its moving average before bouncing back toward the middle.
The support line is the bottom of this range and the resistance line is the top. When a price crosses the support line(s) it may indicate that a trend is starting or changing.
Analysts are always looking for chart patterns to identify trading opportunities. One such pattern, the Triple Bottom, appears when there are three distinct low points that represent a consistent support level – a type of formation that happens when sellers cannot break the support price, and market participants eventually pour in. The security tests the support level over time but eventually breaks resistance and makes a strong move to the upside.
Once the price breaks out from the top pattern boundary, day traders and swing traders should trade with an UP trend. They may consider buying a security or a call option at the breakout price level. To identify an exit, traders should compute the target price by adding the pattern’s height (highest price minus the bottom price support level) to the breakout level (the highest high). When trading, wait for the confirmation move, which is when the price rises above the breakout level. To limit potential loss when price suddenly goes in the wrong direction, consider placing a stop order to sell at or below the breakout price.
This is just one of the plentiful ways to utilize technical analysis in trading. Augmenting these methods with artificial intelligence tools to generate trade ideas, analyze signals to execute advantageous trades, or myriad other options can help investors make rational, effective trading decisions.