Support TrendlinesTechnical Analysis
Upwards sloping trendlines drawn beneath trending price action are also known as support trendlines. When accurately drawn, support trendlines mirror trendlines drawn by multiple institutional and retail traders. When the asset price reaches the trendline, both groups of traders purchasing shares increasing demand and price. This results in the trendline “supporting” the price. The more times price hits the trendline without breaking, the higher the significance and validity of the trendline.
Price needs to have at least two lows to draw support trendlines, but since the trendline slopes upwards each low must be higher than the previous low. The third touch confirms the accuracy of the trendline if the line does not have to be redrawn to achieve the confirmation. Some traders use two touches to confirm the support line, but this contains higher risk since the third touch may break the perceived trend.
The more times the line is touched, the higher the confirmation and validity, and the higher the confidence level other traders (who know about the trendline) will trade the security or asset. Each new touch “proves” their belief in line correct, but if the line breaks and remains below the support trendline, the line is broken and should be considered invalid.
If this break does occur consideration should be given to exiting trades which rely on continued price increases, especially if one bar closes and another bar opens beneath the support line. A support trendline’s strength is broken when traders holding positions see price break the trendline and begin unloading their holdings. Their sales occur at steadily lower prices.
Another careful consideration is the length of the breakout. As the length of your trendline break increases, the chance of your trendline break being true increases. A breakout with a longer length has a greater chance of not respecting the prior trend.
Support to Resistance Reversal
You usually should not delete support trendlines when they are broken, since these lines usually become resistance lines. As traders see price approach the previous support trendline, they may unload assets or stop buying up asset volumes. This slows momentum as it approaches the previous support line. A decrease in willingness to hold the asset or buy the asset will help form a peak as sellers start unloading. This converts the support line into a resistance line.
A weakening or slowing in momentum will become more obvious in oscillators. If a bearish divergence forms approaching the former support trendline, it indicates an increasing likelihood a selloff will happen at the prior support trendline. The completion of the divergence will make it more obvious that it has turned into a resistance trendline. If a second peak forms below the prior support trendline, the transition to a resistance line is confirmed.
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