Whether you’re a beginner or an experienced trader on eToro, having to know when to enter and exit a trade is very important. The exit and entry points are the most important factors in executing a trade and they can either make or break any chances of gaining profits. In addition to entry and exit points, traders should also be aware of significant price levels or historical price levels of a market. These levels, along with the entry and exit points can be identified easily by knowing the concept of support and resistance levels.
In this article, we’ll share with you all you need to know about support and resistance levels and how you can take advantage of them in identifying entry and exit points, and historical price levels.
What is a Support and Resistance Level?
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Basically, a support level is the base of an asset where the price is expected to stop falling. On the other hand, a resistance level is the highest area of an asset or stock where the price is expected to stop rising. In a different perspective, the support is the floor, while the resistance is the ceiling – it is only within these levels that the price is expected to reach.
The support and resistance levels are horizontal lines connecting a common price point from a series of price movements. For the support level, it is located in the lower area of price action. It is established by drawing a line connecting common lower lows of price action.
In the example below from the asset – TSLA, the support level is created by drawing a horizontal line that connects the lower lows of price action. The red arrows show that the price did not break through or breach the horizontal line. The Support level is the level at which the price bounces back up – as represented by the red line in the image.
On the other hand, if the price keeps reaching a specific price level at the top, it becomes a resistance level. In this example, the price tried to break through the horizontal line but was not able to. As soon as the price touches or hits the resistance level, it pulled back down.
In this regard, breakouts happen when either the support or resistance level is breached. For this particular example, the support level has been breached or penetrated thus causing a breakout.
Support and resistance levels also serve as trend indicators that specify the trend of a market – whether it is bullish or bearish. This is done by drawing a line that connects the highs and lows of price action. If it creates an ascending line, the trend is bullish. On the other hand, if the line that has been created is descending, the trend is bearish.
The two images below provide examples of how the trend of a market is determined through resistance levels.
The first image from the asset – Zoom, shows a line that connects the highs of each price range. In every price range, the highs are decreasing thus creating lower highs in every range. Since the line drawn from connecting the lower highs is descending, the trend is considered bearish.
The second example below from the asset – BTC, shows a bullish trend by drawing a line that connects all the highs of a price range. The higher highs on every new price range immediately show that the market is on an uptrend.
Most of the time, support levels can also become resistance levels and vice-versa as the trend changes. This can be done by extending the line towards the current or future price range. In the example below, the red arrows indicate support levels from a downtrend market. As the support levels are extended to the right of the chart, these become levels of resistance. This event where the support level becomes the resistance level of the new price range usually happens at the end of a trend – such as an example which is the end of a downtrend.
Importance of Support and Resistance Levels
Among the most important use of support and resistance levels is that it provides a good assessment of a breakout. As mentioned previously and in our other articles, breakouts happen whenever the trend line is breached by the price. Trend lines can be in the form of resistance levels or support levels. Once the price breaches the support level, it becomes a case of a price drop or price breakdown. For the case when price breaks the resistance level, it becomes a case of price rise or price breakout.
Another utmost importance of support and resistance levels is that these serve as stop-loss price and target price. A stop-loss price is a price level where the trader closes his or her trade to avoid further losses from a bearish market. On the flip side, the target price is the price level where the trader sells his or her trade to lock in profits. Stop-loss price and target price can also be considered as safety measures when trading to avoid considerable losses and at the same time to guarantee profits.
Conclusion
Regardless of the market trend, support and resistance levels provide the utmost importance in winning trade. It is a simple yet powerful indicator that should be used by any trader to track the best areas and levels of when to enter and exit a trade. Only by practicing on how to establish support and resistance levels can one trader truly make the most out of these indicators. With an eToro virtual account, you can get to practice making use of support and resistance levels in real-time trading.
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