Profit Using Technical Analysis – Support
Let me tell you about an important concept of technical analysis. If you ignore this simple analysis, it could cost you thousands of dollars. It’s called support and resistance. It’s absolutely critical you understand what it is and how it works. It’s what makes the markets tick.
One problem beginning traders have is entering trades at the wrong time. This happens a lot if you don’t follow support and resistance.
You’ll be buying when you should be selling, and selling when you should be buying. It will leave you feeling like you’re always on the wrong side of the trade. Not to mention your pocket book will become painfully thin.
Ignoring support and resistance is like putting $2,000 shiny rims on a 20 year old Toyota Corolla. It’s just plain stupid. Yet, some people do it…
Professional traders always watch support and resistance. They use these levels to enter and exit trades.
Simply put, support is always beneath a stock. Resistance is always above a stock. Support and resistance go hand in hand. However, today we’re just going to talk about support.
Let’s dive in…
Two forces make market prices go up and down. They’re called supply and demand. When a market rises, it means there’s excess demand (more buyers than sellers). When a market falls, it means there’s excess supply (more sellers than buyers).
A stock price stops falling because supply has come into balance with demand.
Once we see excess demand come back into the market, prices will rise again.
A price level where excess supply turns into excess demand is called a support zone.
Murphy Oil (MUR) operates in the oil and gas exploration and production business. It’s an international company with over $27 billion in annual sales for 2008.
The green line at the bottom of the chart shows you the support zone. The green circles are where excess supply (falling prices) turned into excess demand (rising prices).
It’s important to note, support zones are just that – zones. It’s never a specific price. It’s more likely to be a zone “around” a price. We want to recognize the zone where demand starts to outpace supply. In the case of MUR, the support zone is “around” $44. Notice how the market kept finding this support zone and bouncing up.
This brings up an important point.
Support levels must be confirmed. This means price must “test” a suspected support zone before actually considering it to be support. A “test and hold” means price must trade at a support level and hold it. The second green circle from the left is the first “test and hold” of the $44 price support zone.
If a suspected support zone hasn’t been confirmed, it’s best to step aside. Let the market tell you what it’s going to do.
Clearly you can see buying at the support level offers big potential for profits!
This is the Market Vectors Gold Miner’s ETF (GDX). GDX tracks the movement of various gold stocks. The main holdings are Barrick Gold, Goldcorp, and Newmont Mining. Why is gold popular? Inflation is in the news and tends to drive gold prices higher. Some investors will use GDX to profit from inflation fears.
GDX is a good example of support on an upslope. Today the GDX is trading at $39.50, just above the up-sloping support line. Looking at the chart, buying GDX in the $38 to $40 area appears to be a good low risk entry point. GDX could run up to the $45 level which might be a good point to take profits.
If GDX breaks below the $35 area, the support line would be broken. You would exit your trade to conserve capital. Remember, good traders will always control their downside risk.
As you can see, using support is an important part of trading. Watch these levels to find good low risk entry points. It’s sure to magnify your profits.
Ignore support levels and you’ll be the one driving the 20 year old Corolla!
Category: Technical Analysis
