Resistance And Support Levels: What They Mean

Support level

Prices fall when there is greater selling pressure than buying in the market. However, after prices fall by a certain amount, the stock becomes valuable as it is cheaply available. This price, below which the stock is unlike fall, is called the support level. The idea is that the market supports the stock from falling at level

Resistance level

A stock rallies because there is great demand to purchase it in anticipation of future profits. However, after a certain point of time, the share price shoots up so much that the stock starts looking costly. This is when, many traders sell to book profits. As a result, the stock stops gaining and starts to fall. This price level is called the resistance level.

What if levels are breached?

Often, we hear analysts use terms like a bear or bull market. The former means prices are falling in the market, while the later denotes a rise in prices. This is determined when the price either falls below the support level or rises above the resistant level. Once this happens, a new support/resistance level is created depending on the current market conditions. If the price exceeds the resistance level, then the old level acts as the new support level. Similarly, once the stock falls below a certain support level, the old level becomes the new resistance price.

Why does this happen

The most active players in the market are traders, who look to make profits in the short term. For this reason, even in a very good market, there will be sellers. This causes the stock price to fall momentarily. The opposite also holds true. Therefore, prices of stock follow an up-trend for a small period, and then a down-trend. This continues until there is a new trigger in the market - a new event, change in the financial health of the underlying company, policy changes, corporate announcements, and so on. These may cause a support or resistance level to be breached.

Importance of the levels:

Technical analysts regularly identify support and resistance levels. These act as key levels for short-term investors, and help make trading decisions. They also help identify trends in the market. This is because prices keep fluctuating between the support and resistance levels until one of them is breached. This, then, indicates a change in the market trend, which will alert a smart investor of an opportunity to making profits or cut losses. Sometimes, round numbers are also considered as key price levels. Once a stock breaches this level, it may have a psychological effect on investor sentiment.

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