Investing in stocks can give you attractive gains on your investments. However, if you are trading on the stock market, you need to look out for the right stocks to buy for a profitable portfolio. Moreover, to earn good returns and cut down on the risks, you need to time the market correctly, i.e., you need to know when to buy and sell stocks. For picking the right stocks and to time the market correctly, technical analysis comes to your rescue.
What is Technical Analysis?
Technical analysis is a method of analysing the different types of stocks trading on the stock market. Unlike fundamental analysis, technical analysis uses past trends to map out price patterns and assess the historical movement of the stock. Based on the historical analysis, the right stocks are picked to invest in the stock market. Moreover, through technical analysis, you can also predict market trends and time the market effectively.
Various tools and concepts are used for the technical analysis of stocks. Two such concepts are Support and Resistance, which are very popular in reading the technical charts of price movements. They are levels that point out the price at which the market trends change. Let’s understand in detail.
What is Support?
The concept of support is seen when the price of a stock is falling. It is that price level at which the existing downtrend is expected to stop because of the buying pressure on the stock. As the price of a stock drops, investors flock in to buy the stock at lower prices, so there is a buying pressure. This causes a change in trend.
(Source: https://www.priceactionninja.com/the-total-beginners-guide-to-trading-support-and-resistance/)
What is Resistance?
The concept of resistance is seen in an uptrend. When the market prices are steadily rising, the resistance level is where the price meets a barrier. After that, the stock price is expected to fall as there would be a selling pressure by investors looking to book their profits.
(Source: https://www.priceactionninja.com/the-total-beginners-guide-to-trading-support-and-resistance/)
How do they Work?
Support and resistance levels work in tandem. They help investors to identify the price points at which a trend reversal is expected. As such, investors can either book their profits or cut their losses. When the price of a stock reaches the support or resistance levels, there are two possibilities –
- Either it would move away from the support or resistance level, which marks a change in the market trend
- Break the support or resistance level and keep moving in the same direction
Usually, the first scenario is more common. However, if the second scenario occurs, the continued movement of the price would create a new support or resistance level. The price would keep hitting the following levels until it bounces back and the trend is reversed.
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Reliability of Tools
Technical analysis tools are pretty reliable. Support and resistance levels are usually plotted against the price of a security. As such, they are pretty good indicators of a possible time to enter or exit the markets. Traders and analysts use technical analysis tools to pick the right stock and find the most opportune moment to enter the stock market.
Every trader can use the tools of technical analysis, and they are also easy to construct. You can also create stock charts, candlestick charts, and other graphical representations of the stock to determine when to trade and when to buy and hold.
Uses in technical analysis
Support and resistance levels are used in technical analysis to pinpoint the right time to enter or exit the stock market. They serve as milestones from where a trend reversal is, most often than not, expected.
For example, if the price of a stock is rising, you, as an average investor, would want the stock price to touch new heights so that you can gain maximum returns. However, if you use the support and resistance levels to check the price level, you can determine when to sell for the maximum gain. If the price increase hits the resistance level, it is a good time to exit the market. Even if the price climbs higher, you will lose out a little profit. However, if the trend reverses, you would make a loss, which is not recommended.
On the other hand, if the price is falling and you want to buy the stock, you would wait for the price to hit rock bottom to buy more units. However, when you compare the fall against the support level, you can assess when the price is going to drop any further. At that time, you can enter the market and get a higher number of shares for the given amount of investment.
Thus, support and resistance levels act as green and red lights for entry and exit. They are often correct. Even if they are not, there would be a small difference if you use these levels to enter or exit the stock market.
The Bottom Line
If stocks are where you want to invest your money, analyse them before investing. The support and resistance concepts can be the most basic concepts of understanding when to invest money in the stock market and when to avoid it.
Remember, stocks are not safe investments, and so you need a complete guide to investing in the markets. Read this beginner’s guide to stock investing as well as the rules of trading in the stock market before you invest.
You can also consider investing in Stoxbox, a diversified portfolio of different types of investments. Stoxbox picks other investment options in India and gives you the benefit of diversification. The stocks into which Stoxbox invests are carefully selected using support and resistance concepts and other tools of the trade. So, with Stoxbox, you can get an expertly curated portfolio and invest in the stock market.
So, understand how and where to invest money for earning maximum returns on your investments. Understand support and resistance levels to make the right investment decisions.
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