What Is Resistance in Stock Markets

One of the common terms used in the stock markets is the term resistance. Now, resistance in the share market can be technical or intuitive. For example, if you find a stock constantly touching a level of say, Rs.200 and coming down, you can call the stock price of Rs.200, its resistance in the stock market. The other way to look at resistance in the stock market is the technical level that you get to see in charts. Here we focus in detail on what is resistance in share markets? Of course, when we closely evaluate resistance in the stock market, we also look at its counterpart; the support levels.

Resistance in Stock Markets

The very term resistance in the stock market; suggests something of a kind of a barrier. That is exactly what it is. The barrier can be either intuitive or technical or it can even be purely psychological. For example, round numbers like 50,000 for the Sensex or 15,000 for the Nifty have proven to be resistant in stock markets. In such cases, these are purely psychological resistances, but they are resistance nevertheless. We will take a definition of resistance as a combination of a technical approach, an intuitive approach, and a psychological approach.

In short, we look at resistance as something which stops the price from rising further because there is an excess of supply at that level in terms of traders or investors who are willing to sell. The funny part of resistance level is that it is a price point on the chart where traders expect maximum supply (in terms of selling). Please note the focus on the word expects. That means; resistances are created by expectations and eventually tend to become actual resistances. The generic rule is; the resistance level is above the current market price.

Another way to look at resistance in the stock market is via probability. In other words, the resistance is the price level where the probability of the price moving above the level is much lower than the probability of the stock meets a price barrier and falling lower. Resistance is one of the critical technical analysis tools that any trader or market participant looks at in a rising market.

The resistance often acts as a trigger to sell the stock or the index. Another counter-intuitive approach to resistance is that if the level of resistance is broken convincingly on the upside with volumes, It can be seen as a sign of inherent strength in the stock. Such actions in the market are known as break-outs and are normally buy signals. We will look at this concept in elaborate later.

Does stock price stop ahead of the resistance?

In reality, the resistance line is breached quite often by small margins. That is because when a stock is going up on momentum, the price often tends to overshoot such technical levels. However, it often returns to below the resistance as the supply builds up at the resistance level. The resistance level is normally shown on charts as a horizontal line and is generally higher than the current market price. However, if you look at the price chart, you will find it temporarily breaking above the resistance several times, although it mostly comes down and settles below that level later on.

When traders trade on the long side as buyers, they try and book profits before the resistance level is reached. Similarly, when the resistance level is approaching, sellers tend to sell the stock for trading and try to cover the stock when the price falls lower. But the million-dollar question is how does a price become a resistance price. How do you decide whether the resistance for Tata Steel is Rs.1250 o rRs.1275? Such levels get built up over time through a continuous struggle between the buyers and the sellers and based on combined expectations. Eventually, resistance gets built up where sellers are willing to sell and buyers are not willing to buy.

Here is the process flow to make use of the resistance levels

Here are some basic rules concerning resistance levels.

• The resistance level is indicative of the likelihood of excess supply. Over time, this expectation turns into ratification and an actual resistance. Automatically, at such levels supplies start building up, and buying vanishes as buyers become wary.
• Eventually, this excess selling pressure at the resistance line tends to drag the prices lower. A typical resistance line has to be tested over some time and against multiple attempts.
• One way to use the resistance line is for the long traders to book profits well before the resistance line, to reduce the probability of a market correction.
• Similarly, for a short trader, the resistance line is below the level where selling is done and the stop loss is normally kept above the resistance line.
• When the resistance line is breached with high volumes, it is a breakout signal and encourages traders to trade in the long direction since breaking the resistance with volumes is a positive signal for the stock price.

What Are Support Levels

Support is the counterargument to the resistance level. All arguments are the same, except that support is below the stock price. Here are five things to know about support level.

• The support level indicates the likelihood of excess demand. Over time, this expectation turns into ratification and an actual support level. Automatically, at such levels, demand starts building up, and selling vanishes as short-sellers become wary.
• Eventually, this buying support at the base support line tends to drag prices higher. A typical support line has also to be tested over time and against multiple attempts.
• One way to use the resistance line is for short-side traders is to book profits a tad above the support line, to reduce the probability of a market rebound.
• Similarly, for a long side trader, the support line is above the level where buying is done with stop loss is normally kept below the support line.
• When the support line is breached with high volumes, it is a lower breakout signal and encourages traders to sell on the short side.

How to Use the Resistance Levels

Resistance is a basic decision support mechanism for traders. Normally, short traders sell below the resistance and long traders keep profit targets below the resistance level. Such resistance levels are also used to trade breakouts on the upside.