In the same way that you can predict that it will rain when the sky is darkened by large clouds, you can also predict a turn in the price.
Price moves as a result of supply and demand and there is always a reason for every price movement, sometimes this cause of movement leaves clues that we can see, tracks that we can follow, or warning signs that we can identify. Other times, the cause of the movement leaves no trace and it is absolutely undetectable. Support and resistance lines are easy to spot and easy to trade.
We are going to see some tricks that will help us guess the direction the price will take.
What is support and resistance in technical analysis?
Support lines in trading
Support is a price zone below the current price, in which the buying force is expected to exceed the selling force. If the strength of demand exceeds the strength of supply, the downward trend will be slowed and therefore the price will rebound.
The market understood as the will of millions of investors, considers that it is a low price level, which is attractive, so when the price reaches that value, purchases skyrocket.
Typically, support corresponds to a previously reached low.
Resistance lines in trading
Resistance is the opposite of support. It is an area above the current price in which the sales force will exceed the buying force. If the force of supply exceeds the force of demand, the uptrend will be weakened, and therefore the price will be rejected from the resistance line.
The market considers it to be a high, an unattractive price level, so when the price reaches that value, sales skyrocket. Resistances are commonly identified on a chart as previous highs reached by the quote.
How to trade support and resistance levels?
We can affirm that supports and resistances generate very useful operating guidelines for trading. In fact, it would be much more difficult to make money in the markets if it were not for the existence of these levels.
Most trading systems or strategies take into account support and resistance to open and close positions. Although the methodology with which they are analyzed and operated is highly variable. In general, in the vicinity of support or resistance, we should not operate. If we have an open position, and the market movement brings the price closer to a support or resistance, we should consider closing the position once we are closer to it. If we are considering opening a position, we should wait until the support or resistance has been traded.
It’s very hard to determine if the price will break or bounce when one of these lines are touched. There is a combination of indicators and patterns that we can use to determine that. For example, using Japanese candlesticks we can find patterns that will show us possible changes in trend, fake breakouts, real breakouts, etc.
There are indicators like the MACD that can give us some tips and show a weakening in the trend that can cause a reversal or rejection once we are closer of resistance and supports.
Find out how MACD works:
It’s very difficult to predict the way of the trend but with the right tools, we can almost predict in which way can go and trade it in our favour.
Tip on MACD strategy
The MACD Indicator is an interesting tool to detect possible price direction changes.Before start using an indicator, as a buy or sell signal test it more than 100 times in paper and then use it in reality. The MACD it can work very well, but always in combination with other indicators or patterns.
The more times a support or a resistance is touched, the weaker it becomes
This can be somehow confusing and the reason is that it depends on the circumstances. On the one hand, it is true that the more times a support/resistance (S/R) is touched it becomes more visible by market participants so it is more relevant.
The question comes up when a level is touched repeatedly in short periods of time. If we talk about support (the opposite would happen to a resistance), this type of price action indicates that buyers are defending the level with increasing difficulty (they find it hard to keep the price away from the support) and sellers have increased strength. In this case, the support is weakening and is more likely to breakdown.
An example would be a descending triangle, which is consecutively hitting the support until it breaks.
Here’s an example of a descending triangle in Bitcoin/USDT, you can appreciate in the picture how the support level after been hit on multiple occasions, cannot hold anymore and the price breaks down. While the price highs are lowering and defining the pattern of the descending triangle.
The Double bottom
What is a double bottom in technical analysis?
The double bottom is a bullish change pattern that we usually find in bar charts, line charts, and candlestick charts.
A double bottom happens when the price tests a support level at which it had previously bounced.
This support zone is also known as the buy zone where we can find many buy orders that can prevent the price from falling further support line.
In the double bottom, and as its name indicates, the pattern is composed of two consecutive valleys that are approximately equal, with a moderate peak in the middle. The triple bottom is an extension of this pattern in which there are three lows at the same price level followed by a break above the resistance.
Classic double bottom is a sign of at least a medium to long term change in trend, however, until the key resistance is broken, a change in trend cannot be confirmed. To help you see this more clearly, let’s look at the key points in the formation of the double bottom.
Anatomy of a double bottom
- Previous trend: With a reversal pattern there should be a previous trend to change. In the case of the double bottom, a significant downward trend should precede its formation.
- First valley (pronounced bounce): Should mark the lowest point of the current trend. As such, the first valley is quite normal in appearance and the downward trend is firmly maintained.
- Peak: After the first valley, a 10 to 20% advance usually begins. The volume in this advance is usually negligible, but an increase could indicate an early build-up. Demand is increasing, but still not strong enough for a breakout.
- Second valley: Peak drop generally occurs with low volume and meets the support of the previous drop. Even after the support is established, there is only “the possibility” of a double bottom, as it has yet to be confirmed. Exactly the same lows are ideal, but there is a certain freedom when interpreting support area, variations of 3-5% are permitted.
- Volume: Volume is more important for the double bottom than for the double top. You should not forget the fact that pressure and volume buys are accelerated during the advance out of the second valley. An accelerated uptrend, perhaps marked by a gap or two, also indicates a possible change in sentiment.
- Breakout of the resistance: As with many other reversal patterns, the trend is not yet complete on the double bottom until breaking the resistance of the highest point between the valleys is the double bottom completed. This should also occur in conjunction with a volume increase.
- Resistance turned into support: the broken resistance becomes potential support. This can offer a second chance to close a short position or initiate a long position.
What is a double top?
A double top is a reversal pattern that announces a potential turnaround from an uptrend to a downtrend.
In order for it to occur, we have to find two consecutive price highs, with a price valley between the two highs.
If we go to a technical analysis book, we will see that in the double tops the price highs are at a similar height, with the second top having a slightly higher height or a lower height.
A double top does not have to be perfect, as any of the technical patterns. The same rule applies with double tops and double-bottom patterns.
The ideal double top
Is the one in which the second high is a little higher than the first one. At the second high, many traders have gone long because of the breakout. However professional traders when seeing fake breakouts start to go short and stop losses start to hit and then it’s when we see big drops and we can confirm the top.
The ball grows, and bearish traders take over from those who close long positions.
Other types of supports and resistances
Dynamic supports and resistances
Dynamic Support and resistance are those that are not fixed and that change over time.
Moving averages can be used to identify dynamic supports and resistances, as the price moves moving average follows acting as S/R.
The most popular moving averages are 200EMA and 50EMA periods, they work as support and resistance in daily charts, and depending on where the price is trading if below or above it marks Bullish or Bearish price action.
In the $PLUG (plug power) chart above we can see the 200 EMA acting as support every time the price hits the yellow line. This is a clear example of dynamic support. The same happens in a downtrend when the 200 EMA or the 50 EMA acts as resistance.