Before discussing Support and Resistance, let us first understand the concept of supply and demand.
- What are Supply and Demand?
Supply and Demand depict the relationship between sellers and buyers.
Supply is an economic concept which describes the number of specific goods or services that can be provided by the producers to the consumers.
Demand is an economic concept which describes the consumer’s willingness to purchase specific goods or services at a particular price.
These are the factors which are responsible for the movement of price in the market. They work against each other until the market finds balance.
When supply is greater than demand, it leads to selling in the market and when demand is greater than supply, it leads to buying in the market. When supply meets demand, balance is achieved and price moves sideways.
- Now, what are Support and Resistance?
The price level at which demand overcomes the supply and doesn’t let the price to decline further. For example trend line in an uptrend and channel line in downtrend form good support for the price.
The price level at which supply overcomes the demand and doesn’t let the price to rise further. For example, channel line in uptrend and trend line in downtrend form a good resistance for the price.
They although show strength of the price, but often the situation occurs when they couldn’t hold the price. When the support is broken it means the bears are in full hold and supply keeps on exceeding demand and when the resistance is broken it means bulls are in full hold and demand keeps on exceeding supply.
- How Support and Resistance interchange their roles?
When the support is broken it means selling is higher than buying and if in any case, the price hits this level again and not be able to go above it, it becomes a new resistance for the price.
When the resistance is broken it means buying is higher than selling and if in any case, the price hits this level again and not be able to go below it, it becomes new support for the price.
- How Support and Resistance help in analyzing trend continuation and trend reversal?
In case of trend continuation
When price keeps on moving in an upward direction with the breaking of higher resistances it confirms the continuation of the uptrend.
When price keeps on moving in a downward direction with the breaking of lower supports it confirms the continuation of the downtrend.
In case of a trend reversal
In an uptrend, when the price is unable to go above the same resistance number of times but breaks the previous support, it signals the trend reversal.
In a downtrend, when the price is unable to go below the same support number of times but breaks the previous resistance, it signals the trend reversal.