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Support and Resistance Explained _ Binance.US Blog

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39 views9 pages

Support and Resistance Explained _ Binance.US Blog

Uploaded by

Sagir Musa Sani
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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The Basics of
Support and
Resistance
Explained
August 17, 2023 - 6 min read
Support and resistance are fundamental
concepts to understand when it comes to
technical analysis.

The concepts of support and resistance are some of


the most fundamental topics related to the technical
analysis of cryptocurrency markets.

While they’re simple concepts to understand, they’re


actually quite difficult to master. Identifying them can
be entirely subjective; they’ll work differently in
changing market conditions, and you’ll need to
understand their different types. But above all, you’ll
need to study a lot of charts, and this guide will help
you get started.

What are support and resistance?


On the most fundamental level, support and
resistance are simple concepts. The price finds a level
that it’s unable to break through, with this level acting
as a barrier of some sort. In the case of support, price
finds a “floor,” while in the case of resistance, it finds a
“ceiling.” Basically, you could think of support as a
zone of demand and resistance as a zone of supply.

While more traditionally, support and resistance are


indicated as lines, the real-world cases are usually not
as precise. Bear in mind; the markets aren’t driven by
some physical law that prevents them from breaching
a specific level. This is why it may be more beneficial
to think of support and resistance as areas. You can
think of these areas as ranges on a price chart that will
likely drive increased activity from traders.

Support level. A support level is formed as the area


on a price chart gets retested multiple times. And if
the sellers are unable to push the price further
down, the price may eventually bounce upwards –
potentially starting a new uptrend.
Resistance level. This refers to downtrending asset
prices that fail to break through the same area
multiple times. The resistance level is formed
because the buyers were unable to gain control of
the market and drive the price higher, causing the
downtrend to continue.

How traders can use


support and resistance
levels
Technical analysts use support and resistance levels
to identify areas of interest on a price chart. These are
the levels where the likelihood of a reversal or a pause
in the underlying trend may be higher.

Market psychology plays a huge part in the formation


of support and resistance levels. Traders will
remember the price levels that previously saw
increased interest and trading activity. Since many
traders may be looking at the same levels, these areas
might bring increased liquidity. This often makes the
support and resistance zones ideal for large traders
(or whales) to enter or exit positions.

Support and resistance are key concepts when it


comes to exercising proper risk management. The
ability to consistently identify these zones can present
favorable trading opportunities. Typically, two things
can happen once the price reaches an area of support
or resistance. It either bounces away from the area or
breaks through it and continues in the direction of the
trend – potentially to the next support or resistance
area.

Entering a trade near a level of support or resistance


area may be a beneficial strategy. Mainly because of
the relatively close invalidation point – where we
usually place a stop-loss order. If the area is breached
and the trade is invalidated, traders can cut their loss
and exit with a small loss. In this sense, the further the
entry is from the zone of supply or demand, the
further the invalidation point is.

Something else to consider is how these levels may


react to changing context. As a general rule, a broken
area of support may turn into an area of resistance
when broken. Conversely, if an area of resistance is
broken, it may turn into a support level later, when it’s
retested. These patterns are sometimes called a
support-resistance flip, which occurs when the
previous support zone acts as resistance (or vice
versa) . As such, the retest of the area may be a
favorable place to enter a position.

Another thing to consider is the strength of a support


or resistance area. Typically, the more times the price
drops and retests a support area, the more likely it is
to break to the downside. Similarly, the more times the
price increases and retests a resistance area, the
more likely it is to break to the upside.

So, we’ve gone through how support and resistance


works when it comes to price action. But what other
types of support and resistance are out there? Let’s go
over a few of them.

Psychological support and resistance


The first type we’ll discuss is called psychological
support and resistance. These areas don’t necessarily
correlate with any technical pattern; they exist
because of how the human mind tries to make sense
of the world.

In case you haven’t noticed, we live in a complex


world. As such, we inadvertently try to simplify
everything around us so we can make better sense of
things – and this includes rounding up numbers. Have
you ever thought to yourself that you have a craving
for 0.7648 of an apple? Or asked a merchant for
13,678,254 grains of rice?

A similar effect is at play in cryptocurrency markets.


Buying an asset at $8.0674 and selling it at $9.9765
just isn’t processed the same way as buying it at $8
and selling at $10. This is why round numbers can also
act as support or resistance on a price chart.

Well, if only it’d be that simple! This phenomenon has


become well-known over the years. As such, some
traders might try to “frontrun” obvious psychological
support or resistance areas. Frontrunning, in this case,
means placing orders just above or below an
anticipated support or resistance area.

Trend line support and resistance


If you’ve read our classical chart patterns article,
you’ll know that patterns will also act as barriers for
price.
You can use these patterns to your advantage and
identify areas of support and resistance that coincide
with trend lines. They can be especially useful if you
manage to spot them early, before the pattern is fully
developed.

Moving average support and resistance


Many indicators may also provide support or
resistance when they interact with the price.

One of the most straightforward examples of this are


moving averages. As a moving average acts as support
or resistance for the price, many traders use it as a
barometer for the overall health of the market. Moving
averages may also be useful when trying to spot trend
reversals or pivot points.

What is confluence in technical analysis?


So far, we’ve discussed what support and resistance
are, and some of their different types. But what’s the
most effective way to build trading strategies around
them?

A key thing to understand is a concept called


confluence. Confluence is when a combination of
multiple strategies are used together to create one
strategy. Support and resistance levels tend to be the
strongest when they fall into multiple of these
categories that we’ve discussed.

Let’s consider this through two examples. Which


potential support zone do you think has a higher
chance to actually act as support?

Support 1 coincides with:


a previous resistance area
an important moving average
a round number in the price

Support 2 coincides with:

a previous resistance area


a round number in the price

If you’ve been paying attention, you’ll correctly guess


that Support 1 has a higher chance of holding the
price. While this may be true, the price could also fly
through it. The point here is that the probability of it
acting as support is higher than it is for Support 2.
With that said, there are no guarantees when it comes
to trading. While trading patterns can be helpful, past
performance does not imply future performance, so
you should be prepared for all possible outcomes.

Historically, the setups that are confirmed by multiple


strategies and indicators tend to provide the best
opportunities. Some successful confluence traders
might be very picky about what setups they enter –
and it often involves a lot of waiting. However, when
they do enter trades, their setups tend to work out
with a high probability.

Even so, it’s always essential to manage risk and


protect your funds from unfavorable price movements.
Even the strongest looking setups with the best entry
points have a chance of going the other way. It’s
important to consider the possibility of multiple
scenarios, so you don’t fall into false breakouts or bull
and bear traps.

Closing thoughts
Support and resistance are fundamental concepts to
understand when it comes to technical analysis.
Support acts as a floor for price, while resistance acts
as a ceiling.

Different forms of support and resistance can exist,


and some are based on the interaction of price with
technical indicators. The most reliable support and
resistance areas tend to be the ones that are
confirmed by multiple strategies.

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