When the trend of the currency pair is going up, the price usually will drop to the uptrend line and then resume their advance. In this instance, the trend line has acted as support to the increase in price of the currency pair. You will find that support can also be located at prices of previous support or resistance.
In downtrends, each time price of the currency pair rises to the downtrend line and then resume their decline, the down trend line will then act as the resistance to the increasing of the market prices.
You will also expect resistance at currency prices for previous support or resistance. Support and resistance levels are sometimes not exact price levels. Many times, they will be a small range of prices. Generally, once levels of support or resistance have been broken, they then reverse their roles such that the previous support becomes resistance while the previous resistance becomes support.
Let’s look at the following consideration. When currency price action decreases to a certain level the buyers (i.e. the bulls) take control and prevent prices from falling further. Similar to support, a “resistance” level is the point at which sellers (i.e. the bears) take control of prices and prevent them from increasing.
Support levels will indicate the currency price where the majority of forex traders believe that prices will move increase, and resistance levels indicate the currency price at which a majority of forex traders feel that currency prices will decrease.
The development of support and resistance levels is probably the most obvious, recurring event on the forex price charts.
The violation of support and resistance levels can be caused by fundamental changes that are above or below the expectations of investors and traders (e.g. interest rates changes, government announcements) or it could be due to a herd mentality (where investors/traders open more positions as the price develops strongly in a certain direction). You will discover that the cause of such price movements is not as significant as the effect and that new expectations lead to new price levels.
It is essential to understand the concept of support and resistance. You can infer that the validity of a trend line is dependent on its duration and the number of times it has been successfully tested. In addition, support and resistance areas should also be utilised as reference points when looking at a forex chart and trying to come to a decision. They can give you some idea of where to place your stop loss or take profit orders.
The pivot point and associated support and resistance levels are calculated by using the last trading session’s open, high, low, and close. Since forex is a 24-hour market, most traders use the New York closing time of 4:00pm EST as the previous day’s close.
The calculation for a pivot point is shown below:
Pivot point (Piv Pt) = (High + Low + Close) / 3
Support and resistance levels are then calculated off the pivot point like so:
First level support and resistance:
First resistance (R1) = (2 x Piv Pt) – Low
First support (S1) = (2 x Piv Pt) – High
Second level of support and resistance:
Second resistance (R2) = Piv Pt + (High – Low)
Second support (S2) = Piv Pt – (High – Low)
Third level of support and resistance:
Third resistance (R3) = High + 2(Piv Pt – Low)
Third support (S3) = Low – 2(High – Piv Pt)
Do note that some charting software plot mid-point levels. These can be considered as mini levels between the main pivot point and support and resistance levels. The simplest way to use pivot point levels is to use them just like the normal support and resistance levels. The more times a currency pair touches a pivot level then reverses, the stronger the level is.
If you see that a pivot level is holding, this could give you some good trading opportunities. If price is nearing the upper resistance level, you could sell the pair and place a stop just above the resistance. If price was nearing a support level, you would buy and put your stop just below the level.