Resistance (technical analysis)
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A resistance level is a price point where a security’s price pivots and changes direction. They are formed when you can draw a horizontal line between two or more pivot price points.
The resistance level is the highest price that a security trades at over a period of time. The more frequently a resistance level is tested (i.e. hits a previous resistance level pivot point but does not rise any further), the stronger the resistance at that level. For this reason, many traders believe that the stronger the resistance, the less likely the price will break through that level.
A resistance level can become a support level if the price of the security rises above the resistance level; similarly a support level can become a resistance level if the price of the security falls below the support level, as per the following example:
If a stock price is moving between support and resistance levels, then a basic investment strategy commonly used by traders, is to buy a stock at support and sell at resistance, then short at resistance and cover the short at support as per the following example:
When judging entry and exit investment investment timing using support or resistance levels it is important to choose a chart based on a price interval period that aligns with your trading strategy timeframe. Short term traders tend to use charts based on interval periods, such as 5 minutes (i.e. the price of the security is plotted on the chart every 5 minute), with longer term traders using price charts based on hourly, daily, weekly or monthly interval periods. Typically traders use shorter term interval charts when making a final decision on when to invest, such as the following example based on 1 month of historical data with price plotted every 1 hour. In this example the early signs that the stock was coming out of a uptrend (reference the most recent high on the 5 year, 1 day interval PAYX chart shown above) was when it started to form resistance at $39.67 and then started to form lower highs and lower lows signalling a change from positive to negative trending.
