A resistance level is a concept in technical analysis, indicating when an asset has reached a price level that market participants are unwilling to continue buying, which causes the price to stop rising.
Resistance is a price level at which upward movement may be restrained by accumulated supply at or around that price level.
Resistance, or a resistance level, is the price level at which the rise in price is halted by the emergence of a growing number of sellers who wish to sell at that price.
More and more sellers will be active the closer the price gets to the resistance level.
When the price of an asset, like a stock or a currency pair, approaches the resistance level, it’s typically seen as a bearish (i.e., negative) signal.
Traders expect the price to start falling due to increased selling pressure
Resistance levels are often used in conjunction with support levels, or the point at which traders are unwilling to let an asset’s price drop much lower.
Traders will often identify areas of support and resistance in order to make decisions on trades, including when to place stop losses and profit targets.
If an asset does break through its resistance level, then some traders believe it will carry on rising in price, or “rally“, until a new resistance level is found.
The concept of resistance arises from the fundamental law of supply and demand.
When an asset’s price approaches the resistance level, it’s often interpreted as a signal that the market’s selling pressure (supply) is overcoming its buying pressure (demand).
This dynamic makes the resistance level a key point in predicting potential price movements.
Resistance in Action
To better understand resistance, let’s consider an example.
Suppose a stock has reached the price of $100 per share multiple times over several months, but each time it ascends to this price, it subsequently falls back down.
In this case, the $100 mark is considered a resistance level for the stock. Traders might interpret this recurring pattern as a signal to sell the stock when its price nears $100, expecting it to fall again based on past behavior.
If you trade the forex market, consider the EUR/USD pair.
Suppose each time the pair reaches a level of 1.2000, it starts to fall back. In this case, 1.2000 is seen as a resistance level.
Forex traders might interpret this recurring pattern as a signal to sell their Euros when the price nears 1.2000, anticipating a decline based on past behavior.
The Significance of Breaking Resistance
A key aspect of resistance levels is the potential for a ‘breakout.’
If the price of an asset manages to break through the established resistance level, it’s often seen as a bullish (positive) signal.
The assumption here is that the buying pressure was strong enough to overcome the selling pressure, which might lead to a significant upward price movement.
However, for a breakout to be confirmed, the price must not only cross the resistance level but also sustain the increase with significant trading volume.
In such cases, the old resistance level can become a new support level, a price floor where the asset’s price tends to stop falling and start rising.
Continuing with our EUR/USD example, if the pair’s price moves above the 1.2000 resistance level and stays there with sufficient trading volume, it would be considered a breakout.
This might be an indication that the pair could continue to rise.
Following such a breakout, the old resistance level (1.2000 in our example) can often transform into a new support level.
Possibility, Not Definitive
While resistance levels can be a valuable tool in a trader’s arsenal, it’s crucial to remember that they serve as possibilities and aren’t foolproof.
Prices can sometimes move contrary to expectations due to numerous factors, including changes in market sentiment, economic data releases, geopolitical events, or corporate news.
Moreover, resistance is more of a zone than an exact price level.
The asset’s price may fluctuate near the resistance level before reversing or breaking out, which is why many traders prefer to consider resistance as a price range rather than a precise point.
Resistance levels are an essential part of a trader’s toolkit, providing insightful cues for market behavior.
However, as with any tool, they’re most effective when used in conjunction with other technical analysis tools, a solid understanding of fundamental analysis, and robust risk management strategies.