suport/resistance-fact or myth

Discussion in 'Trading' started by jperl, Nov 15, 2001.

  1. jperl


    I would like to start a thread concerning support/resistance( SR ) lines used by many traders to determine entry and exit targets. Many traders use these lines as either breakout points or swing points. If price crosses the SR then a breakout has occured and prices should continue in the same direction. If price bounces off the SR then a reversal in price action is expected to occur.

    There are many ways to find these SR lines and a number of sites provide daily info on where they are located. Some of them charging considerable money for this service.

    I would like then to ask the question as to whether these lines are real or simply the result of the random nature of stock prices. For example, if you take any equity chart and draw 5 or 6 random lines on it between the high and the low, these lines will appear to be SR lines with break outs and reversals occuring at these random points even though they are not derived from any factual data about the price action.

    So let's hear from you. Tell us if you use SR for your daily trading, how you determine these points and whether you find them to be of value. At this point in my trading life, I have become a skeptic.
  2. IMO s/r is the single most important information you can use to trade. The major points are far from random.
  3. For me, it really does not matter if it is real or not. I am trading the traders perceptions of those points.

    In other words, I believe fib numbers are complete bullshit. But since a lot of people believe in them, I will pay attention to how the market reacts at those points. It becomes a self-fullfilling prophecy.

    To a similiar degree, S/R numbers are places where a bunch of traders are looking at the same thing. In addition, a lot of stops gather in those places, so it becomes self fullfing there also.

    It really dont matter. Im trading the traders reaction to those numbers. I assume my position is wrong the moment I put it on and my stops reflect that. If you are trading S/R or anthing else thinking that you now have predictive powers, you better have a large account or small positions sizes.

    My $0.10

  4. gh1


    Well, without getting into some philosophical discussion about the nature of reality – I will rephrase the question: is the concept of S/R lines useful?

    First, I think of these lines more as loosely secured chain-link fences that the bears and the bulls lean on (I believe I got that metaphor from Elder?) The real question is; does the concept of S/R provide an edge? A resounding YES! is my considered response!

    Now, what is an edge: it is a set of conditions that tips the odds in the favor of the trade, not a guarantee, just an edge. Will a breakout always continue? Hell no! There may not even be a 50% chance – don’t know.

    The “Turtles” had a profitable system playing breakouts from S/R, and Raschke/Connors have a profitable system from breakout failures called “Turtle Soup”. What’s the point here? They both use the concept of S/R lines to give them an edge, but they both play them in the OPPOSITE direction! You just gotta love this game!

    (profitability of the two systems comes from risk management, and exit strategies)

  5. You are correct. You can be successful playing either side of the S/R lines. In the turtle/turtle soup case, the bottom line is the price action. Again, it is the reaction the traders at those points. The breakout either works or it doesnt. I react accordingly and set my stops, because Im probably wrong anyways...but wrong small.

    As to the nature of is real. Reality exists. It exists whether I want to believe it does or not. The price is either going in my direction or it is not. That is the nature of reality.


  6. Magna

    Magna Administrator


    Im trading the traders reaction to those numbers.

    Excellent all-around first post. It's the same difference between the news (which doesn't matter) and people's reaction to the news (which most certainly does matter). The only caveat would be that in a weaker market breakouts are usually faded, so busting thru resistance doesn't guarantee you a profit. Likewise in a stronger market breakdowns are often faded so the same principle applies. But S/R definitely gives you an edge, and that's about all we can reasonably hope for in the market.
  7. this is gonna be a good thread!

    I use s/r..and agree that they are very important and that it really doesn't matter if they are "real" it only matters if other people think they are.
    so take a chart, use your time frame , and think of it this way: if the market sold xyz at 10...and it's coming up to 10 again maybe they have more to sell at 10 and that will be resistance...then again maybe it won't! :D
    Yeah, you gotta love this game!
  8. I never listen to news during the day. I read the news papers at night. The only news I want to be aware of is whether there is a 10:00 am economic report coming out or not because I dont want to put a position on until that comes out. Sometimes if the market moves 7 handles out of no where, I'll turn on the news and see whats happening. The news cannot help your trading.

    S/R --which I use faithfully -- is only an edge in that it gives you a place to look. I use it to get into positions, and as I have become a better trader, I use it to get out. That is, if I got a "runner" going in my favor, Im looking at the next numbers ahead and if we are getting close to some number that is important, I'll tighten my stops to lock in a bigger chunck instead of dreaming about some huge gain that probably won't hapen.
  9. Here's a snip from a trading guide that does a pretty good job discussing basic concepts of support/resistance:

    II.6 Understanding Support and Resistance

    What technical analysis calls support and resistance is actually the result of a confluence of buying and selling at a specific price. Remember that we are trading people and psychology, not merely stocks. Thus, this confluence of buying and selling is the result of groups of people willing to buy at a specific price - thereby creating support - and groups of people who want to sell at a specific price – thereby creating resistance. This activity results in trading congestion at specific price levels.

    Support and resistance is a key tool in the professional trader’s bag for identifying trade entries and potential exit points. It is also fundamental to intraday swing and breakout trading. It is therefore imperative that a trader understands the nature of support and resistance, where to look for it, and how to apply it.

    II.6.1 The nature of support and resistance

    Why does this occur? Remember that we noted that one of the most poorly understood aspects of technical analysis is that it often works because so many people subscribe to its tenets. We see support and resistance many times BECAUSE so many people (especially professional traders) expect to see it and act accordingly.

    Knowing first to expect it, and then where to expect it, provides you with advantages over normal retail traders. Remember that the bulk of the retail-trading crowd is unsophisticated in technical analysis (although many of them think otherwise), apply the techniques improperly, or draw the wrong conclusions. The actions of professional traders and money managers often drive the stock market (both directly in the equity market and indirectly from the futures market). So knowing what they look at is an important step to helping you get an edge over other retail traders. Most retail traders are late to react. You can benefit if you’re ahead of them.

    Don’t expect to beat the pros at their own game. Just plan to beat the other retail traders out there. That’s what the pros are doing anyway. They’re really not trying to beat out each other as much as they’re trying to get their share of extracting profits from the retail trader/investors.

    Consider what happens when a price finally punches through a key resistance level. Often there’s a pile on when late comer retail traders realize they should be getting in on the action. This creates breakouts. Usually, professional traders are already in before the breakout really takes hold because they knew where to look for it. They then ride the breakout for a while and sell into the buying strength in advance of the next key resistance level. They often thereby reinforce that next resistance level by their selling - again, remember that support and resistance often occur as a result of people expecting it to occur - a kind of self-fulfilling prophecy.

    II.6.2 Where to look for support and resistance

    As we noted above, support and resistance is the result of buying and selling activity - when similar volumes of buying and selling converge. When volume is sufficient, the resulting stalemate between buying and selling creates congestion. Such congestion may occur for a minute or two or if the volume (and therefore the congestion) is sufficient, the congestion is profound enough to create what technical analysts and chartists see as persistent support and resistance.

    Note that every support/resistance (SR) level is not an opportunity to enter a trade. There are specific SRs that are key boundaries that are suggested as potential trade entries. However, multiple SRs exist during the day and are important for trade management, as we will see in the next section.

    But if SRs form as a result of trading activity, how do you know where to look for SRs in advance?

    Some areas of potential support and resistance are obvious - key exponential moving averages, key highs and lows, etc. Again, people act based on these and thus can create or reinforce support and resistance. For example, key exponential moving averages that are tested intraday and hold are often good entry points because enough traders and/or investors are acting based upon them.

    However, modern techniques take this several steps further than simple EMAs and high/lows or old style pivot points. Analysis of the intraday price action at a granular level and use of a set of multi-temporal algorithms can project high probability zones of intraday support and resistance.
  10. m_c_a98


    Currently, 90% of my entries are fading the most common S/R levels intraday. I'm working on trading intraday breakouts but with markets not trending the majority of the time, Fading seems the best way for me to trade intraday......
    #10     Nov 15, 2001