Now, everybody agrees that support and resistance exists. The bottom line is that this is how price action works – a price might consolidate and hold around a certain price, where the market knows that it is secure, and it also could move up rapidly but never move past another certain price. This is obvious, because a market is based on supply and demand, and if a forex market just kept moving in one direction in terms of price, there wouldn’t be much of a tug of war in terms of supply and demand, which is absolutely necessary for a market.
The issue is that many different people have their own ideas of how to designate support and resistance, the same way that they analyze forex in their own way, as well.
Look at the diagram above – you can see that there is a clear zigzag pattern but an overall upward trend, which is bullish.
Let’s say that the forex market moves up sharply, but then begins to pull back, as people decide to take profits. The highest point that it had reached before it decided to pull back is described as resistance – it’s as simple as that, and it doesn’t have to be more complicated!
The market oscillates constantly, and resistance and support levels are formed. It is only enhanced through the psychology of investors and traders, as well.
Plotting Support and Resistance:
There aren’t exact numbers when it comes to support and resistance, and like always, traders have different views.
Here’s the thing with support and resistance: the market might break a certain level – whether it’s support or resistance, but over time, an individual will find out that it was simply “testing” that level. This can certainly confuse traders who are completely beholden to a certain number, and this is where emotions come in, where you have to decide whether the market is really just testing a level or whether that level is about to break, whether it’s on the support or resistance side. Candlestick charts do a great job of representing these “tests” as well, through the shadows on the chart.
Forex Support and Resistance
Notice the shadows on the candles? They show that support was clearly tested but we see that in hindsight, the market was really simply testing it.
Now, some people feel as though it isn’t a test if there is a CLOSE past the level. To some traders, this shows that there was a definite “break”, although even this is subjective! Again, this depends on the trader and their mentality.
Here, you see that the first support level broke, in the sense that it “closed” below, but then rose above it! Now here’s the issue – if you had sold, you would have been “faked out”. Essentially, this is a “fake breakout”. Actually, since the market showed that it was able to rebound AFTER closing – this means that the support is even stronger! This is why it might be a good idea to think of support levels as “zones” rather than concrete numbers.
Now, in THIS case, this is where line charts might work better than candlestick charts, because candlesticks can show the whole range, which can be quick surges and dives based on the market reacting – whereas line charts clearly show the closes. This might make it much easier for this particular concept.
You know how sometimes you just have a reflex? That’s what the market does, from time to time, and it doesn’t really represent what is going to happen next.
Look at where the price starts creating certain valleys and peaks, and you can come up, on a line chart, with some helpful support and resistance zones.
Strong resistance zone, one minor support that got broken easily. At the bottom: strong historical support that bounced the price. But not before it faked the downward move.
Here are some quick tips to remember when it comes to support and resistance, just to ensure that you remember them:
First, when a price passes a resistance, it can often morph into new support.
Second, the more often a level is tested, it actually becomes stronger, which of course is aided by market psychology, as well. Believe it or not, the same strength of a level break can often lead to a similar strength in terms of rebound. It’s important to remember this before you sell too early!
Of course, this is all overwhelming at first, but the experienced trader will be able to recognize these patterns, and keep his emotions in check while he waits for a rebound, or knows that a currency is just testing support rather than breaking it.