How to Trade Based on Support and Resistance Levels

Definition of Support and Resistance Levels

Trading based on the support and resistance levels is one of the base methods of technical analysis.
In order to dive into understanding how to use these indicators for your benefit, it's crucial to understand what support and resistance are. A support level is the area of the price where the buyers increase their interest to purchase, thus a result of an increase in demand from them. A resistance level is essentially the opposite of support. It's the area of the price where the sellers have an increased interest to sell, thus resulting in an increased supply from them. However, understanding their definitions isn't enough to begin trading with this method, as further information is required about these indicators to identify them on a chart correctly.

Using Trendlines

Trendlines are continuous levels that indicate the movement of the market. For example, if the price reaches an area on two occasions and reverses its movement at that level, it's an indication that the price is struggling to move past it. It's important to note that this concept doesn't only apply to horizontal levels; however, to down and upward trends. In an uptrend, the price will reverse at higher highs and lows. The same concept is applied to a downtrend where the price reverses at lower lows and highs. When connecting the points of reversal, you extend a line outwards to the right in order to see the next level where the price will find either a support or resistance. This helps traders understand the trends and patterns in the chart, which provides an idea on how to plan out their next trade.

Major and Minor Support and Resistance Levels

When the price is trending upwards, as it increases, it will create minor resistance levels as it's moving towards a higher level. Since those levels are minor, they are most likely not to hold until the price reaches a major resistance level. Additionally, these minor levels help traders understand whether the trend is still ongoing. For example, if the price is increasing and creating minor resistance levels, and moving past them, then traders know that the trend is still ongoing. However, if the price bounces from that level and changes direction, traders understand that there is a change in the pattern and helps them plan their next trade.
How to Trade Based on Support and Resistance Levels

How to Trade Using Support and Resistance

With the understanding of how support and resistance operate, it's rather simple to understand how to trade using these indicators. When opening a position where the trend is upwards, it's best to open positions near support levels. The same goes for when the trend is downwards, and it's viable to short the market at near resistance levels. This works when you see that the overall trend and can open these positions are minor levels. In case of trend changes at minor levels, it's always viable to place a stop loss. For example, when buying a position, it's best to place a stop loss several pips below the support level, and when shorting a position, the stop loss should be several pips above the resistance level.

Chart Indicators

Trading using only the support and resistance levels is a viable technique for technical analysis. However, other chart indicators can assist the levels in supplying you with extra information, which obviously will benefit you, as the investor—an example of a simple indicator that can assist in is round numbers. For example, when looking at the chart of a stock, there is an uptrend, and the share price is close to 200 USD, which could be a potential major resistance level.
How to Trade Based on Support and Resistance Levels

False Breakouts

A false breakout is when the price of an asset on the chart moves further than we anticipate them to. This doesn't often occur, however understanding how to identify them is crucial for an investor. It's important to remember that support and resistance levels aren't the exact prices of a stock. However, are a zone of the price where it will bounce. Additionally, acting quickly when a false breakout occurs is a great opportunity. For example, if we see that the price of a stock is dropping and reaching towards the support level, it's best to let the price break through the area and open another position momentarily.

Adapting Trading Decisions to New Support and Resistance Levelsp

Adapting your trading decisions based on the patterns of the support and resistance levels is a crucial aspect for an investor. Likewise discussed previously, understanding when there is a trend happening, or when the range pattern is changing will help you identify how the chart is adapting and how you, as the investor, should act towards it.
How to Trade Based on Support and Resistance Levels
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Support and Resistance Trading Strategies

Previously, there have been mentions of different trading strategies for a trader to utilize. Using trendlines to mark the range of the support and resistance levels is vital to identify the zone of the potential bounce. When opening positions, placing stop losses below or above the support or resistance levels is another crucial aspect. And lastly, waiting for the price to drop below the support zone or break through the resistance zone to identify the false breakout, and acting fast will help you, as the investor, secure a position.
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