Using Speed Lines to Provide Support and Resistance Areas

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Resistance Line

What is a Resistance Line?

A Resistance Line, sometimes also known as a Speed Line, helps identify stock Stock What is a stock? An individual who owns stock in a company is called a shareholder and is eligible to claim part of the company’s residual assets and earnings (should the company ever be dissolved). The terms “stock”, “shares”, and “equity” are used interchangeably. trends and levels of support and resistance. Resistance lines are technical indication tools used by equity analysts Equity Research Analyst An equity research analyst provides research coverage of public companies and distributes that research to clients. We cover analyst salary, job description, industry entry points, and possible career paths. and investors to determine the price trend of a specific stock. They are very useful in predicting the probable movement of stock prices and helping people invest in the right stock. Resistance lines are usually drawn on a high to low basis. They help estimate resistance and support levels, making them a very useful tool in trading. A resistance line in an uptrend movement marks the support area and a resistance line in a downtrend movement marks the resistance area. The three lines in the graph below indicate a downtrend movement and proper analysis of them will help lead to a sound investment decision.

The concept of the stock market is simple – risk and return Risk and Return In investing, risk and return are highly correlated. Increased potential returns on investment usually go hand-in-hand with increased risk. Different types of risks include project-specific risk, industry-specific risk, competitive risk, international risk, and market risk. are two parallel factors that move together. Generally speaking, the more the risk you take, the greater the return you can expect. However, there are other things that you should factor in before arriving at any investment decision. There are two types of analysis that can help you arrive at a sound investment decision. The first is fundamental analysis and the second is technical analysis Technical Analysis – A Beginner’s Guide Technical analysis is a form of investment valuation that analyses past prices to predict future price action. Technical analysts believe that the collective actions of all the participants in the market accurately reflect all relevant information, and therefore, continually assign a fair market value to securities. . A resistance line is one of the tools used in technical analysis to predict future prices and guide investment decisions. The line is an effective tool to calculate the movement of a stock and is often used in a stock chart to make predictions.

How Does a Resistance Line Work?

We refer again to the chart above to understand how a resistance line works. We can see there are three lines that indicate the downfall of the stock from its April high. The first line extends from the April high all the way to the July low. The second line shows 2/3 of the April high and July low, e.g., 121.54 – 6.74 = 114.08 (the calculations can be observed in the bottom-left corner of the chart shown above. The third line indicates 1/3 of the April high and July low, e.g., 121.54 – 13.67 = 107.87.

The three lines indicate the trend by showing how the stock is moving over time and how there are upward movements along with the overall prevailing downward movement. Resistance lines help analysts more clearly define a trend and probable price movement in the future, as the lines moves toward the right and the system calculates based on the prices at different periods of time. Basically, resistance lines help investors or market analysts observe a pattern which identifies resistance and support areas.

Purpose of a Resistance Line

The main purpose of the resistance line is to let analysts figure out the short-term trend of a stock, but it can also serve the same purpose for a longer time frame. Identifying support and resistance areas helps an analyst decide on target prices for both buying and selling. Resistance lines can be plotted for either uptrends or downtrends. Note that in an uptrend it would be more accurate to refer to the “resistance line” as a “support line”, since the lines indicate price support levels. Whatever the trend is, drawing resistance lines on a chart enables an analyst to plot a trend graph.

Resistance Line Example

Let us use the chart above to show an example. The first line in the graph shows the start of a downtrend and extends until the end of December. It helps analysts see how long the downtrend remained for the stock and this can be compared with other trends such as industry trends or the trend of the overall market. The second line indicates the resistance points where an upward retracement meets resistance. Calculating and drawing the additional 1/3 and 2/3 resistance lines helps analysts determine the pattern of resistance. When a breakout to the upside occurs, signaling a trend change, the third line, which previously marked resistance, then marks a support level for the newly-formed uptrend at the breakout price level.

Support and Resistance Trading – How to Trade Price Levels like a Pro

Last updated on April 4th, 2020

“There’s no such thing as support and resistance levels”

When I first heard that I thought “What kind of rubbish is this guy talking?”

What are support and resistance levels?
“support is a level or area on the chart under the market where buying interest is sufficiently strong to overcome selling pressure. As a result, a decline is halted and prices turn back again. . . . Resistance is the opposite of support” (Murphy 1986).

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To this day I still think he was wrong but there’s a lesson to be learned by the fact that this experienced trader would make such a claim about such a well known technical analysis tool.

The way that many traders view levels is as support and resistance turning points where they can take trades and define their level of risk.

  1. You identify a price or price zone that has historically supported price
  2. You believe the market will move higher from this area
  3. You go long at this zone and place your stop below the zone.

Sound about right?

From a trading risk standpoint it makes sense as you know when you are wrong and how much you can lose (disregarding any slippage).

It’s not the best way to trade support and resistance and here’s why.

Every Moment Is Unique In The Market

Trading based on levels alone is like trading with blinders on.

It’s easy to identify specific prices that have historically demonstrated their value as support or resistance and the temptation which follows is to take a trade at the price when the level is revisited.

This could be a disaster.

  • Are the same traders who turned the market before going to be there again?
  • Are the same market conditions present?
  • Is the context the same?

When I’m talking about a level of support or resistance, I’m not talking about mathematically generated levels.

I’m also not talking about trend lines as a means of determining support and resistance.

Even though trend lines are popular, there are many trading examples where a down sloping trend line will break to the upside and run straight into a horizontal resistance zone.

What I am talking about are price levels where actual trading activity has previously entered the market and prevented prices from rising/falling further or started a larger move.

  • These levels can be weak just as they can be strong.
  • Weak levels can hold just as strong levels can fail.

So what any level is in reality is a reference to previous trading activity.

Sometimes the market will:

  1. turn from them
  2. break them
  3. push through them by just enough to stop you out before it reverses – false breakout

Whatever the market does, by observing the action at or around a level you are able to find context with which you may be able to identify excellent trading opportunities.

The Problem With Drawing Trend Lines For Support and Resistance

I know some chartists will challenge me on the use of trend lines but you will find that many long time chart technicians have forsaken the trend line not only for support and resistance but also the chart patterns that use them.

Why? Let’s explore an example.

Let’s take a look at trendlines and the main issue with using them.

After two peaks, I am able to draw a trend line to connect the points. Traders that play breakouts of trend lines will monitor price as it breaks the line.

In this example, each break of the trend line rallied but stopped dead in the tracks right near the horizontal resistance line. If you were a long trader this would have caused you grief as the market continued to pullback against you.

It wasn’t until price consolidated under the horizontal resistance line (a bullish sign) that we eventually get a strong break of resistance for a long trade.

That’s not to say you can’t use trend lines in this manner. Just be on the watch for horizontal support and resistance zones that may cause a speed bump or detour.

How To Draw Support and Resistance Lines

There will be a few methods to draw your support and resistance zones and you could question each of them. How do you know your lines are any better than random?

  1. Turn off your candlesticks or bars on your charts
  2. Start drawing random horizontal lines
  3. Turn your candlesticks back on

What are you seeing when you look at the chart?

  • Do you see where price has bounced from your random lines?
  • Do you see where price bounced a few times?
  • Do you see where support and resistance switched roles?

If random lines seemingly reject price, how will you make sure your lines are valid?

One way to determine your support and resistance levels is to use basic market trend structure.

“Usually, a support level is identified beforehand by a previous reaction low,” and “a resistance level is identified by a previous peak” (Murphy 1986)

  • A market in an uptrend will produce higher highs and higher lows.
  • A market in a downtrend will produce lower highs and lower lows
  • A market in a range will produce both

Our rules for defining support and resistance levels are:

  1. Some type of trending pattern and this example is an uptrend
  2. Once a swing high is put in (HH), price rejects from price point (resistance) and then exceeds resistance, we will mark that area as former resistance and POTENTIAL support.
  3. At point marked “A”, you can see we have a higher low and then lower high. This negates the uptrend pattern and you can see price has put in a triangle pattern.
  4. At point marked “B” price holds inside of highs and lows and it’s labelled a trading range
  5. Price breaks lows of range and rejects off previous resistance which has now produced a support level

You will want to note that price will not always return to a former “reaction low” as mentioned by Murphy in the quote above.

There will be times where price will return to the former area of resistance and that zone will act as support as buyers enter the market.

This is a simple and objective method to identify your support and resistance zones using pure market structure.

You can also use prior day high and lows but with markets heading to 24 hour trading (Forex is already there), you may want to define the time you use for open and close such as 5 P.M. New York.

Don’t get too caught up in exact price points with your lines. Remember these are zones. Price is rarely perfect.

How A Market Reacts To Support and Resistance Matters

In order to better understand the context extracted from the market’s reaction to a level, it’s useful to discuss an example.

This is an older chart of the ES primary session where prices were dropping in spite of the fact that in early trading there had been an attempt at moving higher.

The first context was it wasn’t able to hold above the prior session’s high and close.

As prices approached the prior day’s low at 1620.75, selling was decent and given that the earlier attempt to go up had failed, there was reason to suggest that 20.75 wouldn’t hold for too long if at all.

However, at 1621.50 there was a quick turnaround in the market.

In the face of all that selling, the ES rejected Monday’s low before even getting there. It then tested lower a couple of times without getting close to making new lows and it held.

At this point, the chances of a move higher into close were elevated. In the end, the ES pushed 57 ticks from its low to its last high before the RTH close.

Using this context to support you, there was money to be made given the context.

Realistically though, there will be times when it’s profitable to take trades at specific levels.

As I’ve already pointed out, the fact that you are identifying market structure to define the amount of risk you are willing to take is certainly one compelling reason to use levels for entries.

Sometimes levels work so well that it’s not hard to see why traders can be convinced at their unconditional validity.

Support And Resistance Zones Must Eventually Break

However, if all levels were going to hold all of the time the markets would never move.

So the question is that if you are going to enter at levels of support or resistance, which do you choose and when are they valid?

One determining factor you may use to determine a “strong level” is the amount of time price rejected.

That is not a good trading plan.

Hits on a support or resistance level actually weakens the level. Each time price revisits a level, stop loss orders accumulate underneath the zone as you can see by the increasing line thickness.

These make prime areas for an influx of order flow as these orders are triggered. Depending on the amount of stop loss orders beneath the support line and the amount of breakout traders standing by, price can move fast and hard away from the level.

You can note by the green circles that once you start to see price not rallying far from the level or price begins to base at the zone, extra caution must be taken if you are considering a trading opportunity.

In order to trade at a level it’s important to see context, confluence (ideally other reference points aligning) and the right sort of trading activity on approach, all working together.

Is There A Trading Strategy For Support and Resistance?

Since we understand that all support and resistance levels can break, how do we take a trade from the level?

Remember, support and resistance zones are market reference points that allow you to have some structure to your trading decisions at locations where there is potential for price movement.

You don’t have to trade support and resistance zones to get the benefit of them. Seeing how price reacts to this points can be just as valuable depending on your trading strategy.

Once you’ve determined support and resistance zones that you will keep an eye on, the next stage is to watch for signs that the level will either hold or fail.

Support and Resistance Holding Or Failing

  1. Strong drop in price and a long tail candlestick (pin bar, kangaroo tail) rejects at the previous resistance now acting as support level. We’d call this minor support since price has not visited prior to this event.
  2. This is the first peak but highlights a bearish candle that takes out the real body of the bull candlestick. This is a move you can trade
  3. Another reject of support now called major support since it has rejected price more than once.
  4. Engulfed candlestick at major resistance
  5. Price consolidates at support with an obvious resistance line.
  6. Price then consolidates at top of range which indicates bullish intent. You can position inside this smaller range.
  7. Lack of bullish momentum at resistance as shown by smaller candlesticks.
  8. Range with obvious support and resistance levels. Strong break of support and price pulled back to test.After price breaks all previous support, a pullback trade sets up another shot to the downside.

This one chart example has shown many candlestick formations that you can look for at these zones.

False Breakouts Of Zones Are Common

Many breakout traders get nailed when price tests a level, appears to want to break and then simply snaps back up.

These are called false breakout or failure tests.

In this chart, price has ran into resistance and pulled back. You know that traders have been going short or exiting longs because price had not broken through.

Remember what we talked about earlier? Protective stops are accumulating just beyond resistance and the traders on the sidelines are waiting for price to break resistance so they can go long.

At the right of the chart, price runs from the low end of consolidation and after a small battle as indicated by long lower shadows, price pops the resistance area at the black arrow.

Price had a decent run but eventually slammed back almost closing below the open. Is this the sign of a successful breakout?

By the looks of the massive bear candlestick that wiped out 3 days of gains, those that went long are getting hammered.

After a brief consolidation, hopeful bulls see the end is near and the second huge momentum candlestick indicates the probability of other shorts entering the market and bulls finally exiting their position.

False breakouts of support and resistance, even if you don’t trade them, tell a story that the zone is still of interest and acting as a barrier to price. That may aid you in taking a trade short in virtually any trading strategy.

Shorting At A Support Zone Example

The general rule is not to short into support or buy into resistance.

That’s a rule that may be ignored and price action will dictate behavior (this happens to be my favorite setup).

Support zone breaking trade

  • Strong momentum move to the downside and price rallies giving us a support line and resistance line.
  • Price drops back to support at the first green circle but buyers hold the move
  • Second green circle shows sellers stepping in strong but the slight drifting upwards after shows bulls holding on
  • Price drops and begins to consolidate
  • The last green circle shows price dipping below the support level of the range and popping back inside.
  • Price is unable to gain traction to the upside

This is a prime location to enter the trade!

Price action has shown you that at this critical area, the bears are the ones holding the cards.

Your stop would not be placed just above the zone (remember stop runs?) but you may use an ATR stop as an example.

You are positioned before the break which means:

  1. Before stops are triggered
  2. Before breakout traders step in

It is not uncommon to ride the wave of momentum and be up a considerable amount long before others get wind of the trading opportunity.

Useful Technical Analysis Tool

The assumptions that either levels ‘work’ all the time or they are,as the trader at the beginning had decided, non-existent, are both flawed.

Once you understand what they really are, you’ll see just how useful they can be whether you day trade, swing trade and regardless of the time frame chart you are using.

Support and resistance zones will either hold or break. That’s it. Find your own method of determining which one has a higher probability of occurring and take action.

Keep in mind that if a level breaks, you don’t expect price to come roaring back inside of the level. You expect pullbacks to the breakout zone to be weak. This is where understanding what a failure looks like at the zone.

Trading support and resistance is a viable part of a trading strategy that includes risk management and trading psychology. Practice locating and drawing your levels and monitor the behavior of price when the line breaks and when it holds.

Hands on is the best teacher so crack open your charts and staring perfecting your use of support and resistance trading.

2 Responses to “Support and Resistance Trading – How to Trade Price Levels like a Pro”

This was great, I am realizing that price moves or breaks through zones and once you can allocate the significant ones then your price action knowledge is your golden key. Where else can I get more of your trading insight.

Hey Kyle. Thanks for the words. You can find all our trading tips that are posted on our blog here: https://www.netpicks.com/trading-tips/

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A Powerful Way To Draw Support And Resistance Zones

Support and resistance zones are a key when it comes to determining the level at which the price of a currency’s exchange rate is likely to reverse.

It is something I incorporated in my trading almost since the start.

The problem is, those zones can be very subjective. In most cases, a trader can usually only approximate those supports or resistances.

I remember having a hard time identifying the proper zones on my chart. I’d also get discouraged when I saw that other more professional Forex traders identified better or different zones on their chart.

I couldn’t seem to get it…

Then, I began researching “how to draw support and resistance”. I came across a few articles, and even bought a Forex trading course on the topic.

I personally find the widely-available advice on drawing the right zones to be very subjective. It doesn’t lead anywhere.

I first read about using a line chart to draw the proper zones. That helped a little:

But still, try it yourself and see if it works…

I still found this way to be slightly difficult to implement. It is hard to distinguish the strong from the weak support and resistance zones.

Slowly, I came up with a different way to identify the zones. I realized that this new way reduced confusion a lot. As an added bonus, it also gives a much clearer picture of how the market behaves.

A Powerful Way To Draw Support And Resistance Zones

The background story being given, let me outline the process I use to powerfully draw support and resistance areas.

1. Pick your favourite chart type

This first step is really simple and should be complicated. The only thing you need to do is to open any chart an pick the type you prefer. I use candlesticks but it’s up to you to use whatever you want.

Do it now! Reading is boring, I want you to apply!

2. Identify all swing highs and lows

Then, you want to identify all the highs and lows you see on your chart. You might need to scroll in the past a little bit.

I want you to put a line at every top and low you see. It should look like this:

The lines do not necessarily have to be at the complete low. The important thing here is to draw a simple line at all lows and highs. It shouldn’t be very subjective.

The powerful aspect of this step is that you will be able to easily determine whether the market is in a trend or not since you will see the highs and lows.

As you can see on the chart above, the market isn’t currently in a trend.

3. Add lines to connect the highs/lows

The last step in drawing support and resistance zones consists of linking the highs and lows you identified with horizontal lines. Those will become your main support and resistance zones.

Here’s what it looks like:

There is almost no way that the lines you draw will lie exactly on the highs and lows you identified. That is totally normal, be okay with it. Whenever you feel you can connect 2 highs/lows, add an horizontal line.

Once you have completed this process, you can be confident that the lines represent clear support and resistance zones. You can always adjust your lines, but it shouldn’t be necessary.

Let’s compare…

In both cases, the lines drawn look similar. You can see that the line chart has one more lines. On my part, I prefer to keep things simple. I only look for the main support and resistance zones.

Some Important Notes

It is important to understand that this method works great on any time frame. The logic remains the same.

Make sure that the zones you identify are connecting 2+ highs or lows. The more, the better.

Let’s Recap

You may say that this process gives the same result as identifying support and resistance zones through a line chart.

I agree. However, I find this process to be simpler and it helps identify the trend.

In the end, whatever the process you use to identify the support and zones on your chart, make sure you are comfortable with it!

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