How Effective are Support and Resistance Levels in Crypto Investing and Trading?
Two of the most hotly debated aspects of technical analysis are definitely the ideas of trading level support and resistance. These names are used by traders to describe price levels on charts that frequently serve as barriers, preventing the price of an asset from being pushed in a particular direction. They are part of the analysis of chart patterns. The rationale and concept behind identifying these levels initially seem simple. Still, as you'll discover, support and resistance can take many different forms, and the idea is trickier to understand than it first appears.
Definition of Support and Resistance Levels
A price level known as support is one where a downturn is likely to pause because of a concentration of demand or purchasing activity. Demand for the shares rises as the value of assets or securities declines, creating the support line. In the meantime, when prices have grown, resistance zones appear due to selling interest. When a price reaches a level of support or resistance, it will either bounce back away from the level or violate the price level and continue in its direction until it reaches the next level of support or resistance. As a result, once a region or "zone" of support or resistance has been identified, those price levels can serve as potential entry or exit points.
What exactly are support levels?
Support is formed when demand from buyers absorbs supply from sellers, preventing the price from falling further. Bullish traders are inclined to buy at this level because they believe the price is attractive and unlikely to fall further. The bears, on the other hand, stop selling because they believe the market has fallen far enough and is due for a rebound. When both of these scenarios occur, a support system is formed.
EOS/USD daily chart. Source: TradingView
The chart above is an example of strong support. When the price of EOS falls below $2.33, buyers emerge, and selling decreases. As a result, demand exceeds supply, resulting in a rebound. Although horizontal supports are thought to be more reliable, they are not the only way to form supports. Trendlines serve as support during uptrends.
What exactly are resistance levels?
Resistance is the opposite of support because it refers to the point at which supply exceeds demand, halting the upward trend. Resistance is formed when buyers who purchased at lower levels begin to book profits and aggressive bears start shorting because they believe the rally has been extended and is due for a pullback. When supply surpasses demand, the rally comes to a halt and reverses.
BTC/USDT daily chart. Source: TradingView
The level of support or opposition does not have to be uniform. The above chart depicts how the resistance zone was located between $10,500 and $11,000. When the price reached this level, short-term traders booked profits and aggressive bears shorted the BTC/USDT pair. Between August 2019 and July 2020, the pair declined from the resistance zone five times. The resistance line or zone, like the support line, does not always have to be horizontal.
Trading supports in an uptrend
When an asset takes support on an uptrend line three times, traders may expect the line to hold. Hence, long positions can be taken on a bounce off the uptrend line. The stops for the trade can be kept just below the trendline.
However, in an uptrend, the break below the trendline does not necessarily mean that the trend has reversed. Many times, the trend just takes a break before resuming again.
ETH/USDT daily chart. Source: TradingView
As seen in the chart above, the ETH/USDT pair took support on the uptrend line on several occasions. However, when the pair broke below the uptrend line, it did not start a new downtrend. The price consolidated in a range for a few days before resuming the up-move.
Traders may close their long positions if the price dips and sustains below the uptrend line but new short positions should be avoided. If the price resumes its uptrend after consolidation, traders may again look for buying opportunities.
Resistance flips to support
When the price breaks through a resistance level, the bulls attempt to convert the previous resistance into support. If this occurs, a new uptrend will begin or resume. If this occurs repeatedly, it may represent a good buying opportunity.
BTC/USDT daily chart. Source: TradingView
From August 2019 to July 2020, Bitcoin was stuck in the $10,500 to $11,000 range. Following the breakout from the resistance zone, the price fell below $10,500 once more, but the bulls aggressively bought the dip, converting the level into support. Traders had a good buying opportunity because the new uptrend was just getting started.
Support flips to resistance
DOT/USDT daily chart. Source: TradingView
The above Polkadot (DOT) chart shows how the zone between $28.90 and $26.50 acted as a support zone from February 14 to May 18 of this year. However, once the price fell below the support zone, the zone flipped into resistance and has not allowed the price to break above it since. This is an example of a support zone that became a resistance zone.
Importance of Support and Resistance Levels to Traders
While analyzing any coin, traders must look for support and resistance levels as they can act as good entry and exit opportunities. In an uptrend, traders should look to buy at support levels, and in a downtrend, traders should look to short at the resistance line. Support and resistance levels are not set in stone and professional traders will try to hunt for stop orders. Hence, traders should keep the stops such that they do not get run down by the market makers.
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