Support & Resistance Zones and How To Trade Using Them

A support or resistance level is a zone that forms when the price action of an asset reverses and changes direction, leaving behind a peak or trough on the price chart. 

Simplified, support is where the price of an asset tends to stop falling and resistance is where the price tends to stop rising. 

Support and resistance levels can result in trading ranges and they also can be seen in trending markets as the market retraces and leaves behind swing points.

Support and resistance levels tend to withstand price movements as prices often respect them, until of course price breaks through.

This being said, traders still need more information beyond simple definitions before attempting to make trading decisions based on these zones on a chart.

To use support and resistance effectively, a trader must first understand how prices normally move, and use that knowledge to interpret support and resistance. It is also important to note that there are different types of support and resistance; minor and major/strong. 

Minor support/resistance levels are expected to be broken, while strong levels are more likely to hold and cause the price to move in the other direction.

Support and resistance zones are highlighted using horizontal or angled lines, called trendlines. When price stops and recedes backwards in the different direction within a certain zone on two different occasions in succession, then a horizontal line is drawn to show that the market is failing to move past that area.

In an uptrend, the price makes higher highs and higher lows while in a downtrend, the price produces lower lows and lower highs. A trader can connect the highs and lows during a trend and extend that line out to the right to see where the price may potentially find support or resistance in the future.

Trading Based on Support and Resistance

The basic trading strategy when using support and resistance involves buying near the support zone during a market uptrend and selling short near the resistance zone during a market downtrend.

Traders might find it extremely helpful to isolate a longer-term trend, even when trading a range or chart pattern. This is because the trend guides the direction to trade. For instance, when the trend is down but a range develops, opportunity lies in short-selling at range resistance instead of buying at range support. The downtrend indicates that going short has a better chance of producing a profit than buying. 

Example:

While buying around the support or selling around resistance zones can potentially pay off, there is no guarantee that the support or resistance will hold. A trader should consider waiting for confirmation that the market is still respecting that zone.

When you are buying near support, it is rather wise to wait for consolidation in the support area and then proceed to buy when the price breaks above the highs of that small consolidation area. 

When price makes such a move, it is usually a sign that it is still respecting that support area and also that the price is starting to move higher off of support. 

The same concept applies to selling at resistance. 

Wait for consolidation near the resistance area, then enter a short trade when the price drops below the low of the small consolidation.

Place your stop loss several pips below support when buying and likewise, several pips above resistance when selling.

It is also important to have a target price in mind for a profitable exit when entering a trade. When you are buying near support, you could choose to exit just before the price reaches a strong resistance level. When you are selling at resistance, you can also exit just before the price reaches strong support. 

There is a rather popular concept that says that an old zone of support can become a new resistance zone or vice versa, but this may not always be the case. However, but it does work well in very specific conditions, such as a second chance breakout.

A trader needs to understand that support and resistance are zones, not an exact price. Prices of assets often move a bit further than we expect. This does not happen all the time, but when it does it is called a false breakout. for example, your analysis might reveal that there is support at $5, but you may find the price dropping through $5, to $4.96 or $4.93 and then start to rally again. 

False breakouts present excellent trading opportunities. A trader can wait for a false breakout and enter the market only after it occurs. 

When the trendline is showing an uptrend but the price is pulling down towards support, let the price break below support and then buy when the price starts to rally back above support. Likewise, when the trend is down and the price is pulling back to resistance, let the price break above resistance and then short-sell when the price starts to drop below resistance.

The downside to this approach is that there is no guarantee that a false breakout is going to always occur. A trader could miss good trading opportunities, so, it is typically best to take trading opportunities as they come.

 If you happen to catch this unusual false breakout trade, that's a bonus.

False breakouts do not happen all the time, they occur on occasion. Your stop loss should be placed a little bit from support or resistance. This is done so that the false breakout is not likely to hit your stop loss just before it moves in your desired direction.

Conclusion

As you might have gathered from this article, support and resistance are dynamic, your trading strategies also have to be dynamic when using them.  

It is important to mark and highlight major support and resistance levels on your chart, these could become important trigger points when price approaches those areas. Also, delete them once they are no longer relevant. 

Mark the current and relevant minor support and resistance levels on your chart. These will help you analyze the current trends, ranges, and chart patterns. These minor levels lose their relevance quite quickly as new minor support and resistance areas form. Keep drawing the new support and resistance areas and delete support and resistance lines that are no longer relevant because the price has broken through them.

Using support and resistance to trade takes lots of practice. Work on improving your skills when it comes to isolating trends, ranges, chart patterns, support, and resistance using a demo account for practice if possible. 

Practice making trades with targets and stop losses. Only when you are comfortable and better still, profitable over a reasonable time while using your support and resistance trading strategy should you then consider trading using real money.