Trading should just be a simple process of buying low and selling high, but for many investors the process is more like rocket science. One of the most basic and easiest to understand strategies that can help achieve this is to identify the support and resistance levels of an asset.
Once traders can see the support and resistance levels, they can improve their entry and exit timing in the market. Support and resistance are also helpful in bullish, bearish, and range-bound markets.
Let’s take a moment to understand the basics.
What are supports?
Support is formed at a level where buyers ‘demand absorbs sellers’ supply, preventing further price decline. At this level, the bullish traders tend to buy, believing that the price is attractive enough and may not go down any further.
On the flip side, the bears stop selling because they believe the market has fallen enough and a rebound may be due. When both of these situations arise, a prop is formed.
The graphic above is a good example of strong support. Every time the EOS price drops to the $ 2.33 level, buyers show up and sales decrease. This results in demand exceeding supply, which leads to a recovery.
While horizontal supports are considered more reliable, they are not the only way supports are formed. Trendlines act as support during uptrends.
Litecoin (LTC) started its bull run in December 2020. After that, the price recovered from the trend line several times. It did so because the bulls bought when the price neared the trendline believing the LTC / USDT pair had reached attractive buying levels.
At the same time, the counter-trend traders stopped selling, assuming that the short-term sale might be oversold. Both at the same time meant that the correction ended and the upward trend was resumed.
What are resistance levels?
Resistance can be seen as the opposite of support as it is the level at which supply exceeds demand and the upward movement stops.
Resistance is formed when buyers who bought at lower levels start taking profits and the aggressive bears start short as they believe the rally is prolonged and ready to retreat. When supply exceeds demand, the rally comes to a standstill and reverses.
The support or resistance doesn’t have to be a single level. The graph above shows how the area between $ 10,500 and $ 11,000 acted as a zone of resistance. Whenever the price hit this zone, short-term traders booked gains and aggressive bears emptied the BTC / USDT pair. Between August 2019 and July 2020, the pair deviated from the resistance zone five times.
Similar to support, the line or zone of resistance doesn’t always have to be horizontal.
During the decline from May 6, 2018 to July 4, 2018, Ether (ETH) rebounded to the resistance level, also known as the downtrend line, but turned down from there. This is because traders with bearish prospects used the rallies to open new short positions as they expected lower levels.
At the same time, aggressive bulls buying on sharp falls closed their positions near the resistance line. Hence, the line acted as a wall and the price went down from it.
Identify support and resistance in consolidation phases
With the support and resistance clearly defined as in the EOS / USD pair above, on a rebound from the support, traders can buy and wait for the price to recover near the resistance to close the position. The stop loss for the trade can be kept just below the range support.
Professional traders can make multiple attempts to chase these stops by pulling the price below the range’s support. Therefore, traders can buy on the way up and also wait for the price to close well below the support before abandoning their positions.
Trading supports in an upward trend
If an asset finds support three times on an upward trend line, traders can expect the line to hold. Therefore, long positions can be taken on a rebound from the uptrend line. The stops for trading can be kept just below the trend line.
In an uptrend, however, breaking below the trendline does not necessarily mean that the trend has reversed. Often times the trend simply pauses before resuming.
As can be seen in the graph above, the ETH / USDT pair has found support on the uptrend line several times. However, when the pair broke below the uptrend line, it did not start a new downtrend. The price consolidated in a range for a few days before resuming the upward move.
Traders can close their long positions if the price drops below the uptrend line and holds, but new short positions should be avoided. When price resumes its upward trend after consolidation, traders can again look for buying opportunities.
Resistance turns to support
When price breaks out of resistance, the bulls attempt to turn previous resistance into support. When that happens, a new uptrend begins or continues. If this happens multiple times, this can be a good buying opportunity.
Bitcoin was stuck between the $ 10,500 to $ 11,000 zone from August 2019 to July 2020. After breaking out of the resistance zone, the price fell below $ 10,500 again, but the bulls aggressively bought the dip and turned the level into support. This offered traders a good buying opportunity as the new uptrend was just beginning.
Support turns into resistance
The above chart by Polkadot (DOT) shows how the zone between $ 28.90 and $ 26.50 acted as the support zone from February 14th to May 18th of this year. However, when the bears pulled the price below the support zone, the zone flipped into resistance and has not allowed the price to break above it since. This is a case where a support zone became a resistance.
The central theses
When analyzing a coin, traders need to look for levels of support and resistance as these can serve as good entry and exit points.
In an uptrend traders should buy at support levels and in a downtrend traders should short the resistance line.
Support and resistance levels are not set in stone and professional traders will try to look for stop orders. Therefore, traders should keep the stops in such a way that they are not run over by the market maker.
The views and opinions expressed are those of the author only and do not necessarily reflect the views of Cointelegraph.com. Every step of investing and trading involves risk, so you should do your own research when making a decision.