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Horizontal price marks the most common form of S/R. These important highs and lows reveal scarred battlegrounds between bulls and bears. They carry an emotional shadow that exerts lasting influence whenever price returns. Markets tend to draw bottom support on high volume and then test it repeatedly. Over time these become significant floors during future corrections. Alternatively, tops that print during frantic rallies may persist for years. Failed tests at these levels reinforce resistance and generate a pool of investor supply that must be absorbed before the uptrend can continue. In both cases, horizontal S/R levels should be obvious at first glance of a promising new setup. Look for price to fail the first test of any significant high or low horizontal S/R level. But then expect a successful violation on the next try. This classic price action has the appearance of a triple top or bottom breakout. The popular cup and handle pattern offers a clear illustration of this dynamic process. Also watch closely where the first test fails. If price cannot reach the horizontal barrier before rolling over, a second test becomes unlikely until the pattern breaks sharply in the other direction.
Swing traders must evaluate many price restraints beyond simple floors and ceilings. These lesserknown
pivots provide superb entry and exit when located. The crowd often misinterprets price
action at these levels and triggers opportunity on the other side of the trade. As noted earlier,
common knowledge tends to undermine the dependability of technical setups. Alternatively, the
markets reward original vision and strategy. Consider the substantial benefits when classic S/R
mechanics combine with contrary entry.
Trending markets emit their own S/R fingerprint. Rising or falling moving averages routinely mark
significant boundaries. Popular settings for these versatile indicators have found their way into the
financial press, technical analysis manuals and charting programs. The most common calculations
draw lines at the 20-day, 50-day, and 200-day moving averages. These three derivative plots have
wide acceptance as natural boundaries for price pullbacks. Two important forces empower these
classic averages. First, they define levels where profit and loss taking will ebb following strong
price movement. Second, their common recognition draws a crowd that perpetrates a self-fulfilling
event whenever price approaches.
FIGURE :
Swing traders scan the charting landscape to identify horizontal support-resistance and major moving averages that
uncover natural reversal levels. While this process appears simple, price action generates many complex variations that
baffle execution planning. Try to combine as many forms of price convergence as possible to pick out high-odds setups.
The S/R character of moving averages changes as they flatten and roll over. The turn of a specific
average toward horizontal signifies a loss of momentum for that time frame. This increases the odds
of a major line break. But don’t confuse this condition with an extended sideways market in which
several averages flatline and draw close to each other. In this dead market, price will most likely
swivel back and forth repeatedly across their axis in a noisy pattern. Swing traders find few
opportunities in this type of environment.
TABLE 2.1
Moving Average Settings and Related Trends
Moving Average Trend
20-day Short-term
50-day Intermediate-term
200-day Long-term
Trendlines and channels signal major S/R in active markets. A useful charting line prints from any
vector drawn across two relative highs or lows. But these simple features have little staying power.
Look for three or more points to intersect in a straight line. Then extend out that trendline to locate
important boundaries for price development. As with other landscape features, long-term lines have
greater persistence than shorter ones. Strong trendlines may even last for decades without violation.
Draw valid lines above three or more highs and below three or more lows, regardless of whether the
market prints an uptrend or downtrend. Two or more sets of trendlines that lie parallel to each other
form price channels. Their construction requires at least four points: two at support and two at
resistance. Aggressive participants can build price channel projections with only three points and
extend out estimated lines for the missing plots. But use these extensions only to predict turning
points and be very reluctant to wager the account solely on their results.
Many swing traders assume that violation of a trendline or channel signifies the start of a new trend.
This is not true and leads to inappropriate strategies. Trendline breaks signal the end of a prior trend
and beginning of a sideways (range-bound) phase. A market can easily resume a former trend after
it returns to stability. Shock events that combine with line breaks can start immediate trends in the
opposite direction, but these happen infrequently. Hole-in-the-wall gaps (see Chapter 11) provide a
powerful example of this phenomenon.
Trendline and channel breaks should induce immediate price expansion toward the next barrier.
When this thrust does not occur, it can signal a false breakout that forces price to jump back across
the line and trap the crowd. Whipsaws and pattern failures characterize modern markets. As
common knowledge of technical analysis grows, insiders routinely push price past S/R just to
trigger stops and volume. These gunning exercises end only after the fuel runs out and induces price
to drop quietly back into its former location.
Mathematical statistics of central tendency study the esoteric realm of divergence from a central
price axis. Analysts use these calculations every day as they explore standard deviation of market
price from an expected value and its eventual
