What are Support & Resistance Levels?
Levels of support & resistance are two major concepts in relation to technical analysis. Technical analysts use support and resistance levels to identify price points on a chart where there is a potential pause or reversal of a prevailing trend.
A level of support is a level where the price tends to find support as it falls. This means that the price is more likely to “bounce” off this level rather than break through it. However, once the price of the asset has broken down below the level of support by a substantial amount, it is likely to continue falling until meeting the closest support level.
A level of resistance is the exact opposite of a level of support. It is where the price tends to find resistance as it rises. This means that the price is more likely to “bounce” off this level rather than break through it. However, once the price of the asset has broken down below the level of support by a substantial amount, it is likely to continue falling until meeting the closest level of resistance.
Technical analysts often talk about the ongoing battle between the bulls (optimistic investors) and the bears (pessimistic investors), or the struggle between buyers (demand) and sellers (supply). This struggle is often revealed in the price range that a financial asset will rarely move above resistance or below support.
Support and resistance levels are important to technical analysts, especially in terms of market psychology and supply / 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 trend lines shift or are broken entirely, the supply and demand behind the financial asset’s movements also shift, in which case new levels of support and resistance will likely be established. In this next section, we’ll be demonstrating how to identify levels of support & resistance using a live chart example.
Example of Support & Resistance
Taking a look at the 1W time frame of Algorand (ALGO), a top market cap cryptocurrency currently ranked #19, we can identify some pretty evident levels of support & resistance. Analyzing this chart from a top-down standpoint, we can first identify where the top level of resistance is placed, holding the price of the asset (Algorand back). This resistance level is placed on the body of the candle that represents the start of the downtrend, beginning in August 2019, at $0.81. From here, we can identify the $0.1433 level of support, which is where the price of Algorand changed the momentum from bearish to bullish.
Now that we’ve identified the main two levels of support & resistance range, we can pin point the smaller levels of support & resistance that have significance, but not to the extent of the first two marked out. The reasoning behind this is because all of the levels we draw in between the $0.1433 – $0.817 range are just weaker as its easier for these levels to break up / down. Any line drawn in between these two are stuck in the matrix of this range we’ve identified earlier.
Adding onto that last thought, I ended up marking out 3 other semi-major levels of support. Moving from left to right, I marked the swing low wick of the candle in August 2019 around the $0.507 region, which was a resistance that is now acting as a level of support. You can take a look at the chart and see the bullish momentum spiking up to that resistance level in early 2020, only to be rejected and pushed back down to lower lows. I marked a minor level of support at the start of 2020, which ended up marking the start of the uptrend for the most recent spike upwards at the beginning of this year, 2021. Shortly after this, Algorand gained the $0.507 level of resistance as support and created a new local high, which I marked as my 3rd level of resistance placed at $0.6291. At the moment, Algorand is currently trading in between the $0.507 – $0.6291 range. To wrap it up, the $0.1433 level of support that we originally marked on this chart, was found after the rejection from $0.507. Anytime in the markets where we see a rejection from a resistance level like that, automatically assume that we are going to see a falling knife and bearish momentum in the markets that will lead to the closest and strongest support level catching that knife.
Psychology in Support and Resistance Levels
Round numbers often represent the major psychological turning points at which many traders will make buy or sell decisions – making this one type of universal support and resistance that tends to be seen across a large number of financial assets.
Round numbers like 10, 20, 50, 100 and 1,000 tend to be important in the psychology of where the support and resistance levels are located. Buyers will often purchase large amounts of a financial asset once the price starts to fall toward a major round number such as $100, which makes it more difficult for the shares of that asset to fall below the level. On the other hand, sellers start to sell off a stock as it moves towards a round number peak, making it difficult to move past this upper level as well. It is the increased buying and selling pressure at these levels that makes them important points of support and resistance, and in many cases, major psychological points as well.
The levels of support and resistance created by psychological levels aren’t necessarily the strongest levels and can’t guarantee those psychological levels are worth marking out on the chart. All of the levels marked on the chart are found on the chart and the chart only. The market makers are very good at creating the random walk in the market and understand that we understand these support & resistance price movements, so they make it difficult for us on purpose. That is why I don’t mark out psychological levels based off the psychology, and solely base all of my levels based on what i’m given on the charts.
The Importance of Support and Resistance Levels
Support and resistance levels in technical analysis are important tools and often referred to as the backbone of technical analysis, 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, he or she may decide to take profits as the financial instrument moves toward this point because it is increasingly less likely 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 indicate a reversal in the trend.