What is Support?
In technical analysis, Support is a price level which a stock has had difficulty falling below. A Support level can be caused by a number of situations. In many instances you will find that a stock has simply dropped to a level where traders can’t resist the urge to buy. For example, when a stock declines to a previous low, buyers who missed the upward price movement from that level believe the stock to be at a “good price.” They then enter with expectations that it will once again move higher.
Another source of Support often comes from technical traders who use charts to locate moving averages. For instance, whenever price falls to near the 50-DMA – Daily Moving Average – these buyers move in. More often than not they will reverse the downtrend, if only for a quick bounce. One contributing factor to this kind of Support level is that many stock charting packages come pre-programmed with the 50-DMA.
What is Resistance?
In contrast to a Support level, Resistance is a price level which a stock has had difficulty rising above. In looking at price charts you will find many instances where a stock rises to a certain previously reached level, then suddenly reverses to move lower. This is called a “Resistance level.”
The reverals at Resistance levels typically occur for a variety of reasons. Often it is because there are enough traders in the stock who bought it at that same level earlier only to watch it drop, leaving them with a potential loss. Once it rises back up they are grateful to sell at the same price they paid for it.
Another reason for the reversal at a Resistance level is that many “swing” traders in the stock exit at these levels to take profits. They then wait for a sign of weakening price to enter short positions in the same stock. These are some of the reasons why Resistance levels are created.
Here’s an important concept. Once a stock pushes up through a Resistance level and stays above that price level for a period of time, the former Resistance level becomes a new Support level. The inverse is true as well. Whenever a stock drops down through a Support level and stays below that price level for a period of time, the former Support level becomes a new Resistance level.
Support and Resistance. Extremely important concepts for a traders and investors who are contemplating when to enter a position.
For a more in depth look at this topic go to Understanding the Importance of Support and Resistance.