If you look at the chart of any time frame, you can notice an interesting pattern - almost always price reversals do not occur in random places, but where there was once something similar
As we already know, the market functions due to the activity of sellers and buyers, and changes in the balance between them can occur on a very different scale. This, in turn, generates fluctuations of different amplitudes - from tick to monthly trends. There is also a certain diversity and differences in the scale of operations, their goals.
For example, you can buy dollars for rubles only because you are afraid of losing money, or you can earn money by buying 64 and selling 67. Then wait for a good price again. In the first case, a person has bought and will wait, not hoping for an improvement in the situation. In the second case, there is a price at which the sale will be made, since the person does not believe in further growth and wants to repeat the operation again at a new opportunity.
This is a very simple example of how you can set benchmarks in the market. People pursue different goals, someone just speculates, and someone, on the contrary, invests. Now, if our scale is increased by millions of times, we will get a large, but at the same time also a structured market picture.
There are many small speculators, and there are huge funds that cannot just take and place their application from hundreds of thousands of lots at once. Accordingly, price values appear where they are activated. There is even a separate type of analysis that studies the periods in the market when capital is placed by large market participants in order to follow them.
However, due to the fact that the forex market consists of separate cells, it is impossible to make a really complete picture. In our case, it is the reversal situations that are of interest, which indicate a sudden change in the conjuncture. That is, confident dynamic growth suddenly stops and consolidation begins, and then a reversal in general. Similarly, in a falling market.
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The process of forming support and resistance levels
Now let's look directly at the very situation of the occurrence of such levels. Let's say we have an upward trend. At some point, it stops and the correction begins. The stop occurs for the reasons described above, that is, due to a shift in the aggregate interest of bidders towards sales.
After the end of the correction and the resumption of the trend movement, it is very often possible to observe how the price again begins to experience problems with overcoming this level. Despite the fact that many strategies involve entering a breakdown, you need to wait for this breakdown first, since a new decline is likely. It is on this principle that double or triple peaks are very often formed, and on very large periods and trends, a reversal is often accompanied by prolonged consolidation. That is, resistance can have an impact on the price more than once.
The same can be said about support. After the correction has started, it ends at some point, as the price becomes attractive for purchases. This is how support is formed. After the trend resumes, if a reversal suddenly occurs for some reason, this level will still be of interest to buyers and they will become active again when approaching it.
In general, the entire schedule is based on this principle. This does not mean that right every time the support and resistance levels will turn the market around, otherwise it would be in endless consolidation. But the fact that they are not easy to pass is an unambiguous fact, which can be easily verified by taking absolutely any scale chart of any trading instrument. And, as it is not difficult to guess, the larger our time frame, the greater the impact on the price will have such support and resistance levels. Now let's look at where support and resistance can form, as well as how the support and resistance line is drawn.
Where support and resistance levels are formed
There can be quite a lot of reasons. It is not necessary to consider every small local pullback as a new resistance or support. The market cannot move exclusively in a straight line, there are always fluctuations, but it is not easy to find out what causes them. It can be a news background, a sudden decision of some player with large capital, in a word, a lot of things. We will consider the most typical situations:
Reversal at the level in the past
Any clearly visible reversal in the market that occurred earlier in this price area will definitely have an impact in the future. Even if the trend direction is different, the trend scale is different and so on. Trends of different dimensions still have an impact on each other. You can verify this by looking at how the price develops an upward movement after a prolonged downward one. Each correction in the fall will prevent the price from passing through these areas quickly and easily.
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Technical levels
Here, without any details, we will simply list the most popular ones that we will study in the future:
- Fibonacci levels;
- Murray levels;
- Indicator levels based on moving averages, the Ichimoku indicator, and so on.
At the end of long-term and large-scale trends
It is rare when a movement of 1000-2000 pips ends with a quick reversal. The presence of the price in the reversal areas usually indicates that someone is unloading their large position, or, on the contrary, there is a set of volume, that is, a very large order is gradually placed.
So, for the level of support and resistance itself, we take the specific value of the extremum. This will be the starting point for us in analyzing the graph from this point of view. Next, let's look at why it works a little differently.
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Features of support and resistance levels
Sometimes a very interesting situation may arise - resistance, which for a long time prevented the price from passing, eventually turns into support, and vice versa. This phenomenon is due to the fact that such a range is very heavily traded, there is a fairly large accumulation of volumes.
A similar phenomenon is also often observed on small periods, for example, on a five-minute or fifteen-minute. The trend develops with stops and the formation of ranges, which are then overcome, but one of the boundaries becomes the same boundary for a new range. Thus, we can conclude that support and resistance levels play a much more important role than it might seem at first glance.
In trading, and it does not matter at what period it is conducted, it is very important to mark such levels in advance, draw indicative lines and not forget about them in the future. This will help to avoid situations when the market suddenly turns around and the trader simply does not understand why this happened. And all because I didn't mark these important support and resistance lines.
The second important feature is that the concept of "level" is very conditional. The fact is that applications are not placed on one specific value, but are "smeared" over the price area. If everyone had placed their pending orders on a specific value, then when it was reached, the price would simply plummet or rise. But this is not happening. On the contrary, you can see how the price does not reach the mark of resistance and support levels, or on the contrary, it goes beyond it. That is, it is not necessary to focus on the quotation. Such a value can be used as a kind of middle, from which we indent in both directions.
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Thus, we will have a zone, an area of values that are highly likely to lead at least to consolidation, or even to a reversal. The scale of such a zone should be determined depending on how the trend developed and on which time frame the analysis is conducted.
For example, if the growth or fall were dynamic, then we can expect a small jump over the designated level. If the traffic was sluggish and with numerous stops, then most likely it will not be reached. Depending on the time frame, we can offer the following tolerances in both directions, we will give the final size of the zone that is relevant around the value where the support and resistance line passes:
- M5-M15 - 3-5 points
- M30-H1 - 5-10 points
- H4-D1 - 20-40 points
- W1 - 50-100 points
There is also an unconditional dependence on the trading instrument itself. If we are talking, say, about a sedentary AUD/NZD cross, then these values may be excessive. But for pound pairs characterized by very high volatility, these values can be safely multiplied by 1.5 or even 2. You should also look at the behavior of the pair in this very range. If it is obvious that the movement is slowing down and a U-turn is planned, you can prepare for the entrance. If the pace does not fall, then a jump over the value where the support and resistance line is drawn is likely.
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Where it meets
Often, the level of support and resistance is part of a pattern, for example, from graphical analysis. It can be a triangle in which one of the sides has no slope, that is, the forming lines converge, but one side is horizontal. An even more interesting example is the "flag" pattern, if it does not have a slope. In this case, the graph shows fluctuations within the framework of two horizontal lines drawn, that is, the overall shape becomes rectangular. In such a situation, the upper bound becomes resistance. And the lower one, on the contrary, is a support.
There is a similar story in the Head and Shoulders pattern. The head itself can be a simple jump over the level of resistance and support, where a reversal was formed, the second shoulder repeats the same scenario. And the neck line in this case is a line of support and resistance, and this time it will be a line, a level, and not a zone or area. This situation shows how fundamental a role supports and resistances play in trading in general, since they are often one of the "bricks" that together form more complex patterns, patterns.
It is also worth noting that the level of support and resistance is not necessarily strictly horizontal. It is in the classical sense and simple analysis that we give such examples. In the future, in the following articles, we will consider different variants and manifestations of the same principle - the impact on the price of events in the past and the effect of it.
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