You may have noticed that it’s easy to analyse a chart after the events have happened, and explain where the support and resistance have come into play. The challenge is to locate them on a real time basis, so that they can be useful for trading the bounce and retrace for profit.
I pointed out previously that the terms support and resistance are sometimes used in different ways. In one case, they are horizontal lines, which have actual val-ues associated with them. You can easily see the use of them – the theory goes that the price has reached this level before, and didn’t drop below (or rise above), so the market has decided the level that is unbreachable (except when it is breached, remember that nothing is certain!). In this model, the price of a stock in a rising trend goes up in a series of steps, which include all the fluctuations in price on the way. This is the way that Nicolas Darvas, the well known trader/dancer, viewed the progression, and it is a popular way.
An alternative considers that the support and resistance are lines that touch the peaks of the low and high prices, and these lines may be angled. These are sometimes associated with the term trend lines, and they can lead to other analysis, such as the flag or triangle patterns, which direct your attention to a tightening of the trading range, until the price breaks out. There are advantages and disadvantages to both methods of analysis, and as long as you are aware of how you are looking at it at any particular time, they are both informative techniques.
The horizontal support and resistance lines can last for a long time, particularly if there is not much trending going on, and you need to be able to locate them re-liably. What you can do is look for the latest peak or trough, and then draw a horizontal line back from it to see if there are similar points in the past. These would tend to confirm the location. You should also be able to see a slowdown in the candlesticks near this price – in other words, the bodies of the candles get smaller, or even doji, which means that there is not a lot of tugging of the price by the traders going on. You can also look at the shadows for confirmation of this.
As I mentioned previously, when the trend is up and the price breaks up through the resistance, this can become a new support, and this will give you some more confirming points for the level of the line you have drawn. The more confirming points, the more sure you are that the location is correct, and that the support should hold any price approach – at least until the next breakout.