Technical Analysis: Identifying Support and Resistance Zones

Support and Resistance

• Support is the price level at which demand is thought to be strong enough to prevent the price from declining further.
• A break below support signals that sellers have reduced their expectations and are willing to sell at even lower prices.
• Once support is broken, another support level will have to be established at a lower level.

Resistance

• Resistance is the price level at which selling is thought to be strong enough to prevent the price from rising further.
• A break above resistance signals that buyers have increased their expectations and are willing to buy at even higher prices.
• Once resistance is broken, another resistance level will have to be established at a higher level.

Role of Reversal: Support and Resistance

• Support can turn into resistance and vice versa.
• A break below a support level can turn that broken support level into resistance.
• A break above a resistance level can turn that broken resistance level into support.

Trendlines

• Trendlines are a straight line drawn on a chart through or across the significant limits of any price range to define the trend of market movement.
• Trendlines are one of the first technical aspects of the market to be discovered.

Uptrend

• An uptrend is when a line is drawn on the chart by connecting the low points of the security as its price continues to rise.
• Each low point is successively higher than the previous low, giving the trendline its upward slope.

Downtrend

• A downtrend is when a line is drawn on the chart connecting the high points of the security as it continues to fall.
• Each high point is successively lower than the previous high, giving the trendline its downward slope.

Sideways Trend

• A sideways trend is a horizontal price movement that occurs when the forces of supply and demand are nearly equal.
• A sideways trend is often regarded as a period of consolidation before the price continues in the direction of the previous move.

Factors that Determine the Significance of a Trendline

• The longer the period, the more significant the consequences.
• The more times a trendline has been tested, the greater its significance.
• The steepness or slope of the trendline helps identify if the trend is significant or unstable.

Volume Studies

• Volume studies offer three major benefits:
  • When price and volume patterns are in agreement, it favours an extension of the trend.
  • If price and volume disagree, it tells us that the underlying trend is not as strong as it looks on the surface.
  • Volume can throw up characteristics of its own that literally shout a warning or opportunity.

Price and Volume Relationship

• Volume typically goes with the trend, expanding in a rising market and contracting in a declining one.
• A combination of rising volume and rising price is normal, but a new high in price that is not confirmed by volume should be regarded as a red flag, warning of underlying technical weakness.
• Volume normally leads price during a bull move.
• A bullish signal is given when price and volume both increase, or when price and volume both decrease.
• A bearish signal is given when price increases but volume decreases, or when price decreases but volume increases.