What is Resistance in Stocks?

Some indicators are plotted on price charts, while others are plotted above or below the price. When the market is trending up, resistance levels are formed as price action slows and starts to move back toward the trendline. When the price is moving against the prevailing trend, it is called a reaction. As you can see from the chart below, resistance levels are also regarded as a ceiling, because these price levels represent areas where a rally runs out of gas. Many experienced traders will pay attention to past support or resistance levels and place trades in anticipation of a future similar reaction at these levels.

Why Support and Resistance Matter

Keep in mind that long-term resistance levels can have more significant implications for the asset’s price direction compared to short-term levels. A breakthrough resistance can shift that level to become new support, known as the Polarity Principle, guiding future trading decisions. Once prices approach resistance zones, traders should be alert to price action to exploit potential trading opportunities, whether it’s going with the trend for a breakout or betting on a reversal. The stock market is a dynamic ecosystem where prices fluctuate based on supply, demand, human psychology, and a myriad of economic factors.

Breaking Through Resistance: The Breakout

• Traders may use more technical analysis tools and risk management strategies to enhance their trading decision’s reliability and avoid relying only on these levels for accurate market movement predictions.
• Support and resistance indicators help in identifying potential buying or selling opportunities.
• When the price is moving against the prevailing trend, it is called a reaction.

In Figure 4, the MA (black line) is tracking the average closing prices over the previous 50 days. Selling pressure overwhelms buying pressure when price takes an “upside” breather (see red arrows in Figure 3). More importantly, notice how price “tests” the trendline without breaking through it. Bulls supported the price by entering the market in droves (with buy orders). Perhaps it had something to do with the larger fundamental or economic context. The green arrows point to every instance where price bounced off support (as if from a floor), while the red arrows highlight where price bounced back down (as if hitting a ceiling).

Conversely, sellers overwhelmed buyers at the resistance levels, causing prices to fall. Identifying support and resistance levels adds discipline to a trading strategy. It establishes reasonable prices at which to buy and sell. Otherwise, traders may jump into a stock because it looks cheap or hold onto it too long in hopes it goes higher. Most technical traders incorporate the power of various technical indicators, such as moving averages, to aid in predicting future short-term momentum.

How can you use support and resistance levels to manage risk?

The rationale is that as the price rises and approaches resistance, sellers (supply) become more inclined to sell and buyers (demand) become less willing to buy. In 2020, Tesla (TSLA) faced significant resistance around $500 (pre-split). For months, the stock approached this level multiple times, only to retreat as sellers stepped in. Each rejection reinforced $500 as a psychological and technical barrier. Finally, in November 2020, Tesla broke through on massive volume, fueled by strong earnings and market enthusiasm. The former resistance at $500 became support, and the stock soared to new heights, eventually reaching over $1,000 (pre-split) in the following months.

Strategies for Trading with Resistance Levels

• Collectively, buyers must have thought that the support level made for a strategic entry.
• These levels are significant in trading because they represent price zones where traders perceive an asset as overvalued.
• Most likely, the short sellers probably have left stop-loss buy orders higher above the resistance point or zone, allowing a margin of error for slippage.
• But when the stock did break through to the upside, it indicated the trend had changed.
• For months, the stock approached this level multiple times, only to retreat as sellers stepped in.
• When the market is trending up, resistance levels are formed as price action slows and starts to move back toward the trendline.

Many different technical tools can be used to identify likely resistance levels based on mathematical formulas. Among them are simple and exponential moving averages (20, 50, and 100 are favorites), Ichimoku Cloud charts, and Bollinger Bands, to name a few. Alert readers may have noticed that the resistance levels encountered above are key and big round numbers like 140, 190, and 230. These are frequently referred to as psychological “big figures,” meaning traders pay close attention to these levels as potential zones of support and resistance. There may be no good reason to pay attention to them on their own, but psychological behavior makes them potential resistance levels. Traders use technical analysis to identify specific resistance points or zones.

There are at least 3 groups of stock owners that are trying to sell their supply at $55. The third group bought the stock below $50; let’s say they bought it at $40. When the stock got to $50, they sold their stock, only to watch it go to $55. Now they want to re-establish their long positions and want to buy it back at the same price they sold it, $50. The Polarity Principle refers to the price phenomenon whereby once resistance is broken, it becomes support, and vice versa.

Resistance vs. Support: Two Sides of the Same Coin

External factors like earnings reports, macroeconomic news, or market sentiment can override technical levels. A stock might blow past resistance unexpectedly due to a catalyst, or fail to reach it despite a strong trend. Technical analysis, including resistance, works best when combined with other tools like fundamental analysis and risk management. The more often the price touches or “tests” a support or resistance area, the What Is Cryptocurrency more significant the level becomes.

In this article, we’ll dive deep into the meaning of resistance, how it forms, its significance in trading, and strategies to navigate it effectively. As you go deeper in your understanding of the technical analysis of stocks, you will often come across the terms – ‘Support’ and ‘Resistance’. Support and resistance are two important concepts that can help you make informed stock trading decisions. Support refers to a price level below which a stock is unlikely to fall, while resistance refers to a price level above which a stock is unlikely to rise.

One strategy is to place short trades as the price touches the upper trendline and long trades as the price reverses to touch the lower trendline. To be a valid trendline, the price needs to touch the trendline at least three times. Sometimes, with stronger trendlines, the price will touch the trendline several times over longer time periods. Reactions can occur for a large variety of reasons, including profit-taking or near-term uncertainty for a particular issue or sector.

This causes the decline in the price of the asset to halt. Let us look at this Nifty Pharma 4-hour chart to understand the concept better. The lower blue line represents support, while the upper blue lines (solid and dotted) represent resistance. She holds a Bachelor of Science in Finance degree from Bridgewater State University and helps develop content strategies.

In options trading, strategies vary based on how the market is expected to move. One such strategy is the short call which is used when traders expect limited upward movement or a decline in a stock’s price. Technical analysis is one approach of attempting to determine the future price of a security or market. Some investors may use fundamental analysis and technical analysis together; they’ll use fundamental analysis to determine what to buy and technical analysis to determine when to buy. Resistance can be a single price, like the day’s high or an hourly peak.

On June 5, 2023, the Nifty 50 Index in India was anticipated to encounter resistance around 18,650, a close above this level, signifying a potential breakout. Breaking below 18,440 could result in further downside pressure, with support expected around 18,100. A close above this level would indicate a potential breakout and could pave the way for new highs, with the next target at 18,888. If the index continued to rally, the next target would be 19,400.