If you have engaged in trading stocks or trading cryptocurrencies by attempting to predict price movements using technical analysis, you’re probably familiar with the terms support, resistance, and trendlines. However, if you’re just beginning out using technical analysis to trade in crypto derivatives, you may not know or completely understand these essential concepts.
Support, resistance, and trendlines are concepts commonly used by traders to refer to price levels on charts that tend to act as psychological barriers, moving the price of the derivatives in a particular direction. These are commonly used while reading chart patterns and the way it works can be relatively easy to understand, but is extremely difficult to master, as they can come in various forms.
Let’s dive in and understand the theory behind support and resistance levels, and real-life practical instances of how they’re applied with examples.
Support and Resistance: The Theory
Support can be defined as the price level in a downtrend, below which sellers are unwilling to exit. It prevents the price from being pushed down further. The law of demand in basic economics states that when the price of an asset (or even its derivative) goes down, the demand for it will increase, provided all other things remain the same.
When applied to crypto derivatives, this means that when the price of a derivative drops, the demand for that same derivative goes up. This, in turn, rallies the market and stabilizes the prices to an extent, preventing the prices from dropping further.
If that seemed a little too vague, consider an analogy of an empty basketball court:
- If you bounce a ball of the floor, it may go higher than the floor level, but cannot ever drop below the floor. This floor, in the context of trading, is called the support.
- Support is the price point, which prevents the price of an asset from going further down.
- Extending the same analogy, resistance can be viewed as the ceiling of the court, beyond which it is unable to bounce past.
The resistance is the price point at which, in an uptrend, is higher than what the buyers demand, effectively forming a price barrier.
However, unlike the above analogy, resistance and support levels are not concrete levels and can be broken past, given an increase in bullish/bearish behavior as the case may be. A price movement can break support or resistance levels if there’s adequate market demand.
Usually, when support or resistance is broken, the broken level tends to change roles. When an asset’s price falls below the support level, what previously was the support level tends to become the new resistance and vice versa.
Applications and Real Life Examples
Armed with the knowledge of support and resistance levels, you may be thinking about how to optimally utilize them in crypto trading. Usually, the support is used as an entry point to buy into crypto assets, and resistance is used as an exit point for when you might want to liquidate or move to a crypto asset. These are fundamental concepts used in other techniques, such as Fibonacci retracement techniques, and are used in confluence with other theories to help predict the market price movements with a high level of accuracy, and profit from the predictions.
Let’s take a look into some of the real-life examples of how support and resistance work.
In this example, you can clearly see the well-defined resistance and support levels in the ETH/BTC pair. These levels give crypto traders a clear signal to buy or sell at the supports/resistance, respectively. You can also see that the support and resistance levels are not concrete, but should be used merely as indicators as to what the next market movement might be.
It is highly recommended to use support and resistance, along with other technical analysis tools, to gauge crypto market movements.
Common Resistance and Support Zones
The following are common resistance/ support zones, where the market will face difficulty in moving past:
- Whole Numbers
- Fibonacci Levels
- Trend lines
- Moving Averages (links to these articles to be given as and when they are made)
Supports and resistance are the price points beyond which the markets will find it challenging to move through, making them an ideal indicator for a buy/sell order. It is important to understand that no technical analysis tool is foolproof, and is subject to a vast number of factors. These tools, however, are used to increase the odds of profitability. As a crypto trader, it is essential that you research and understand the market risks before investing in any asset.
If you are looking to begin trading in the crypto world, here’s an in-depth guide on investing in Bitcoin Futures.