Content of this chapter:
What are support levels & resistance levels?
Principle of Formation
How to Determine Direction
How to Use Major Contracts to Improve Judgment Accuracy
Today, I want to discuss a phenomenon that is often seen in the cryptocurrency market.
Recall that when we look at the price trend of a stock, we often find a pattern: over a period of time, such as several weeks or months, the stock price seems to always hover around a specific price level? The highs drop to a similar position and the lows always rebound near a certain price?
This is what we often refer to as "resistance levels" and "support levels."
In simple terms:
"Resistance level" is like a ceiling; when the stock price rises here, it can never go higher.
"Support level" is like a floor; when the stock price drops here, it always rebounds.
Many people believe that:
Once the price breaks through the resistance level, it is a bullish signal. And once the stock price falls below the support level, it is a bearish signal. The breached resistance level will become a new support level, while the breached support level will become a new resistance level.
What are the principles behind these patterns??? Let's first look at how resistance and support levels are formed.
Part One: Formation of Resistance Levels
Mr. A bought a large amount of punt spot at a stock price of 1.04 yuan. He found that at the selling prices of 1.04-1.09 yuan, there were many buyers. So Mr. A started raising the price, and the stock price slowly rose from the initial purchase price of 1.04 to 1.09. When Mr. A listed at 1.09, there were still buyers, but the number of buyers was not as many as before. When he continued to raise the price to 1.1, he found that there were no customers at all because other merchants still sold at 1.09 yuan, which was cheaper, so buyers chose the cheaper channel.
So why are there suddenly so many sellers around the price level of 1.09 yuan trying to grab business?
The reasons may include the following points:
Not believing in the breakout: Some people see that the highest point of this stock in the previous stage is 1.09 yuan and do not quite believe it can exceed this time, so they take the opportunity to sell more.
Regret selling: Some people had the chance to sell when it last reached 1.09, but they didn't, and afterwards, they regretted it. This time, it finally returned to the previous price, so they decisively sold.
Break-even mentality: There are also some people who bought at the price level of 1.09 last time. They realized they bought at a high price immediately after buying, fell into a loss state, and deeply regretted it. Now they can finally break even, so they also decisively sold.
Short selling behavior: Some people feel that since the price cannot rise above 1.09, they start to short sell, borrowing a lot of stocks to sell at 1.09, thinking they can buy back at a lower price later to return them and profit from the difference.
Mr. A found that his business was being snatched away, so he lowered the price even further. Everyone began to lower their prices. Thus, everyone rushed to sell and competed to lower prices, causing the price to fall.
Part Two: Formation of Support Levels
During the continuous price drop, the number of sellers competing to lower prices becomes fewer because if prices drop further, everyone will incur losses. And when the price drops to around 1.04 yuan, suddenly a large number of buyers rush in to grab purchases.
Why did these buyers suddenly emerge?
Bottom-fishing mentality: Some people see that the previous stage's lowest price is around this level and think it won't go lower, so they quickly buy in.
Regret missing out: Some people had the opportunity to buy at 1.04 last time but didn't, and only regretted after missing it. Now they finally have another opportunity in front of them, so they hurry to buy.
Low Price BuybackThere are still some people who sold at this price point last time, and as soon as they sold, the price skyrocketed, resulting in their deep regret. Now they finally have another opportunity to buy at a low price in front of them, so they quickly buy in.
Due to a decrease in sellers and a sudden increase in buyers, the stock price began to rise again near 1.04 yuan.
Thus, the price oscillates back and forth between pressure and support, and we call this sustained phenomenon box oscillation.
In general, the underlying logic of the formation of this pressure and support is group psychology. It is also a behavior of consistency. More interestingly, as more and more people discover this pattern, the formation of pressure and support becomes more solid.
How are resistance and support levels broken?
The price cannot keep fluctuating in this range forever. What could cause a breakout?
Good news about currencies attracts many people to come and buy. (For example, Market order punt)
Large funds entering the market, such as major institutions entering the market.
It's like two people arm wrestling; they were originally evenly matched, and the resistance and support levels are the boundaries of their strength balance. Once one side gets external help, or one side suddenly weakens, this dynamic balance is broken, and the price will break through the resistance or support level.
This balance being broken is also seen as an important signal.
Breaking through the resistance level: Many people will see it as a bullish signal because breaking through the resistance level disrupts many people's psychological expectations, leading more people to follow suit and buy. Those who originally shorted will worry that if the price continues to rise, they won't be able to return the stocks, so they quickly buy back to stop loss. This behavior is called short covering, which will also drive the price to continue rising.
Breaking through the support level: Similarly, if the support level is breached, it will also be seen as a bearish signal.
Good news is often difficult to know in advance. However, we can gain further judgment on breakouts by mastering the timing of fund entry.
In the cryptocurrency market, we can see the inflow & outflow of institutional funds on Binance to make a rough judgment. But the problem is that institutions want to pursue better profits with less money, so they use contracts. We can judge the direction in which institutions are preparing to break through based on the direction of their contracts.
Finally, resistance and support levels are only one of the indicators for observing candlestick charts. We also need to combine more indicators to see through the market trend, rather than just relying on one indicator. When multiple indicators align in one direction, the probability significantly increases. For resistance and support levels, major institutions sometimes also engage in reverse operations to create false breakouts. The most important thing for us is to manage our investment portfolio well!
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