This time, we will study the basics of support/resistance levels trading and find out, whether this strategy is close to the "exchange grail".
Only a lazy trader, after a couple of months of trading, doesn’t come across the notion of support/resistance levels in relation to the price move. On the Internet, there are numerous ads of levels trading strategies, “profitable levels trading”, “trade levels as a professional”, “super-profitable strategy of levels trading”, and so on.
It’s the same on forums, it is fashionable to criticize different indicators and praise the analysis of levels in an empty chart. Those who trade without indicators, look down on the traders, using them because they “haven’t understood yet” and so, are far from a professional approach to trading. But there is a mistake, which will be further described.
Based on my own experience of using horizontal levels in trading, I can disappoint those who think this analyzing method to be something magical or superior to other strategies: levels don’t guarantee 100% profits. Any strongest level can be broken by the price.
Even if all traders from your favorite forum and all the world analysts indicated the level as a “very strong one”, the price can easily break it through. We will see later why it happens.
Let’s try to understand what support/resistance levels (or demand/supply zones) are in general, and how they are formed.
I have already mentioned support and resistance casually in my article on technical analysis, in the Common terms section. Now it's time to go into detail.
A support level is defined as the price of the buyer's interest in an uptrend or the seller's interest in a downtrend. That's the price that makes traders actively support further trend development. Conversely, resistance is defined as the price level which makes market participants fix profits and go in the opposite direction of the trend line, i.e., resist a further trend development.
However, support and resistance levels aren't registered solely in a trending stock market. Those key levels can be observed in a flat market as well. In that case, the support level will coincide with the trading channel's lower limit and the resistance level – with its upper limit.
Those values are usually marked with a thin horizontal line on the chart. I prefer using rays to see the starting point clearer. It has already been proved that the older a level is, the stronger it is, compared with later values.
Before you continue reading, try to answer the question: “Why does the price go up and down at all”? Don’t think about the price curve in the chart, recall the examples from real life. Remember, what is happening on sales or in times of product shortage. Remember?
Now, let’s study example №1
There are three tomato sellers in the market.
The first one’s price for tomatoes is 50 per kilo
The second one’s price for tomatoes is 60 per kilo
The third one’s price for tomatoes is 70 per kilo
Who will you buy tomatoes from? Of course, from seller №1, as it is more advantageous for you. Will other people do so? I think they will. Thus, we understand the law of supply and demand: “the lower a product price is, the more the desire to buy it”.
If we apply this law to exchange trading, we can say so: traders-buyers will compete with each other for the lowest price offered by traders-sellers
And now in simple terms: if the price for i-phone X is down, more people than now will buy it.
Traders-buyers will compete with each other for the lowest price offered by traders-sellers. Continue reading on Liteforex.