What are Support and Resistance levels?
Support and resistance are key concepts used in technical analysis of assets, including crypto assets.
Support is a price level, where a downtrend can be expected to pause due to a concentration of demand or buying interest. As the price of an crypto asset drops, demand for the asset increases, thus forming the support zone. And vice versa. Resistance zones arise due to selling interest when prices have increased.
Notice in the Bitcoin chart below (April to August 2020), how the price had been rising, hit $10K (resistance point) and reversed downward. That’s a level at which the advance was met with selling resistance. It is the level at which sellers are as powerful and aggressive as the buyers and stop the advance. When the sellers (supply) become more powerful than the buyers (demand), the price declines from the peak ($10K in this case).
A resistance level becomes a resistance zone when more than one resistance level occurs at roughly the same price. Prices rarely rise and stop at the same level, of course.
A support point is the opposite of a resistance point in that it is a single trough. It is a place where buyers become as powerful or aggressive as the sellers and stop a price decline.
The concept of support and resistance assumes that, in the future, prices will stop at these levels or zones and that they represent a remembered psychological barrier for prices.
Also, once these levels are broken through, they switch functions (previous resistance becomes support and vice versa) in an important concept known as polarity.
Why do Support and Resistance Occur?
Have you ever bought a coin, watched it decline in price, and hoped to sell out for what you paid for it? Have you ever sold a coin, watched it go up after you sold it, and wished you had the opportunity to buy it again? Well, you are not alone. There are common human reactions, and they show up on the price charts by creating support and resistance. (Jiler, 1962).
What about round numbers?
Round numbers often represent support and resistance levels. It is where buying and selling typically increase. Notice Bitcoin at $10K, $20K, … (see blog article here). The tendency to look for round numbers is part of human psychology. It is the same reason why retailers use prices like $19.95 rather than $20. People subconsciously associate with the 19 rather than 20.
How to find Support and Resistance?
Finding these key level can be tricky. Generally, support area forms around the previous price lows, while resistance area forms around the previous price highs.
Once an area of support or resistance has been identified, those price levels can serve as potential entry or exit points. Here’s how to trade breakouts and approaches. A price break above the resistance zone implies that sellers are satiated at that level and buyers are anxious. See the upward breakout in the Bitcoin chart above.
If another resistance zone exists above the one that was just broken, prices will typically trade up to that next higher zone. Thus, a resistance zone in an advancing market can become a price objective once a lower resistance zone is broken. This logic also works with support zones, in reverse.
Our platform automatically identifies a support or resistance area, when there are a minimum of three touching points at a specific price level. Key levels can have up to 10 touching points. And the more touching points a price level has, the more significant the level turns out to be . It is how the theory of support and resistance goes, but it also makes logical sense. Every time that a level is tested or touched, but not broken, the market confirms that it is not prepared to go lower than that price. The more often it happens, the more likely it seems that it will happen again.
How are Support and Resistance Zones Drawn?
To draw a support and resistance zone, simply draw a horizontal line through each significant trough (support) or peak (resistance).
These lines can be drawn through the bar lows (support) or bar highs (resistance) or using the bar’s close (closing price) since most investors look at closing prices. Extend these lines into the past to see if earlier price declines stopped at the same price level.
The more times the price level has stopped previous advances or supported previous declines, the strong will be the resistance or support in the future.
Conclusion. Support and Resistance levels are critical tools in a trader’s belt. It’s where a lot of signals and trading happens and they tend to be simple trading setups with high win rates. These key levels are often established by behavioral factors (human psychology) and are an clear indicator of the interaction between buyers (demand) and sellers (supply), which ultimately determine the cryptocurrency’s price. You can find trade setups for support and resistance levels on altFINS’ platform.