Recognizing support and resistance levels is a skill that every trader should master. Once you know how to identify these levels, you will see how the price performs near them and you will be able to enter in just the right moment to benefit from trade.
The price will behave differently around support/resistance levels. Sometimes it will bounce back and sometimes it will break out. In this particular guide, we will focus on identifying the breakout of the price and what a trader should do in such a case.
When will the price break out from the support or resistance?
Just a quick explanation to have a clear situation that everybody knows what are the support and resistance levels. The price seems to fluctuate within some limits. It reaches a specific point and bounces back afterward. When you will draw a line connecting the lowest price points you will get the support line. If the line will connect the tops, it will be the resistance level. It is not uncommon that the previous support line becomes resistant.
Both levels can be strong or weak. The strength is expressed by the number of times the price reaches the support/resistance level and bounces back. If this number in a certain period of time is high, it will signify the strong support/resistance. If the price bounces just once or several times before breaking through, the levels are weak. To break out from the strong support/resistance level, the price momentum has to be really strong.
When will the price momentum be sufficiently strong to break out from the support/resistance level?
You need to determine the dominant trend first. Use a candlesticks chart to do that. You will know the trend is strong when the candles are large and two or more consecutive candles are of the same color.
You have every right to anticipate the strong price momentum when some news or economic event is expected. Observe the price just before the news’ announcement and you will see it runs in a specific direction often breaking through the support or resistance levels.
The other signal the price might want to break through the support or resistance is when it fluctuates within a quite limited range. After such a consolidation it has enough power to break out from the support/resistance. Be careful with this one because the price often comes back into the range for a moment and only then breaks through.
Look at the example below.
False breakouts and how to avoid them
False breakouts are the traders’ nightmare. They brought losses to many. We can talk about a false breakout when the price drops back to the range after crossing the support/resistance.
To avoid losing money on the false breakouts, you will need to analyze the charts attentively. Notice which trend is developing when the price strikes strong support or resistance level.
Take a look at the example below. The price hits the resistance level but continued in a downtrend afterward. When you see the price’s breakout but it remains beyond the support/resistance (the resistance in our example), it can signify the false breakout.
Look at the solid reddish candle that breaks a newly created support level (before it was resistant). It indicates a downtrend and this is the right moment for you to enter a short position cause it was only a false breakout of the resistance line.
What to do in case of breaking through the support/resistance level?
If the price breaks through a weak support/resistance you can expect the trend to continue in the same direction. In the case of a strong support/resistance consider how the price behaves when it touches this level.
If you look at our snapshot above, the price usually develops a downtrend. If the breakout occurs, wait until the market behaves like it did when prices hit the support/resistance. That is the time to enter the trade based on the developing trend.
False breakouts happen and there not too much you can do about it. There is a theory that says that they occur when big market players want to sell high or buy low. To do that they need to push the price to break resistance or support. So when price breaks the resistance and then goes back with a strong move, you can try to join sellers.
Pros and Cons of Using Support and Resistance Levels 🏛️
- Support and resistance levels can help traders identify potential entry and exit points.
- They can aid in determining the strength of the current market trend.
- Using these levels can potentially lead to profitable trades when breakouts are properly identified.
- False breakouts can lead to incorrect trade decisions and potential losses.
- Identifying support and resistance levels requires practice and experience.
- These levels do not guarantee success and should be used in conjunction with other indicators and market analysis.
|Identifying Support/Resistance Levels
|Requires practice and experience. Helps in finding potential entry and exit points.
|Can lead to incorrect trading decisions and potential losses. Requires careful analysis to avoid.
|Utilizing Trading Tools
|Tools like Bollinger Bands and oscillators can aid in identifying oversold and overbought areas, thus enhancing trade decisions.
Base your transactions on the price trend to avoid false breakouts
As it was said before, it is important to know how the price moves when it reaches the support/resistance level. It will help you to make a good transaction when it happens again.
To gather this knowledge, you have to read the chart carefully. My advice is to use a larger timeframe chart than your trading interval. Let’s say you are trading 5-minute candles. I would recommend using at least a 30-minute chart. It may be a 1-hour chart as well.
Sometimes the price breaks out from the support/resistance level often. It could be a good idea to use the extra help of some additional tools and indicators. Like this, your trades will be more appropriate.
You may, for example, try the Olymp Trade Bollinger Bands indicator or one of the well-known oscillators to help you to determine oversold and overbought areas. It can improve the performance of your market decisions.
It is crucial to identify the support/resistance level and act accordingly. But it does take a lot of patience to master this skill. Your goal is to define the right moment to enter the trade after the breakout of the price.
To learn is to practice. Do not hesitate and open an Olymp Trade demo account. There you can check for yourself how the price behaves after the breakouts, when the false breakouts occur, and what you should do next. Tell us all about it in the comments section below.
Have a good trading experience!
Q&A: Support and Resistance at Olymp Trade
- What are support and resistance levels in trading?Support and resistance levels are key concepts in technical analysis. They represent the levels at which the price of an asset meets pressure, with the potential to stop and possibly reverse its direction. Support levels indicate where there will be a surplus of buyers, while resistance levels signal areas with a surplus of sellers.
- How do you identify a false breakout?False breakouts can be challenging to identify. They occur when the price appears to break through a support or resistance level but quickly reverses direction. Analyzing the volume during a breakout can provide clues, as a genuine breakout is usually accompanied by increased volume. Additionally, candlestick patterns can also be useful in identifying false breakouts.
- How can trading tools like Bollinger Bands assist in trading?Bollinger Bands can help traders understand whether an asset is overbought or oversold. When the price is near the upper band, it may be considered overbought, and when it’s near the lower band, it may be considered oversold. This can provide potential trading signals, especially when combined with other indicators.
- What is a price breakout?A price breakout occurs when the price of an asset moves above a resistance level or below a support level. This is often seen as a significant event as it indicates that the market sentiment is strong enough to push the price beyond a key level.
- Why is it essential to understand the price trend before trading?Understanding the price trend before trading is crucial as it can help you make better trading decisions. If the trend is upward, it might be a good idea to consider buying opportunities, and if the trend is downward, selling opportunities may be considered. Trend analysis also helps in setting stop-loss and take-profit levels.
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