Support level definition

What is a support level?

A support level is a certain price level at which the value of an asset repeatedly stops falling and bounces back up. Usually, the markets prove unwilling to let an asset drop below its support level, with buyers stepping in to raise the price again.

If an asset does move below its support level, the level is either wiped out – and a new support level is identified – or it’s reconfirmed, if many traders buy the asset.

Support levels are the opposite of resistance levels: the point at which the markets prove unwilling to let an asset’s price rise any higher.

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What do support levels tell traders?

Support levels tell traders when the best time might be to enter and exit the market – enabling them to manage their risk by placing stops and limits.

If the support level is reached, traders who expect the market price to go up will use it as a signal to enter a long position. This means that limit entry orders can often be found at support levels.

Conversely, traders who have entered short positions – with the expectation the market price will fall – might use support levels as a point at which to place their stop losses.

Support levels also offers more insight into general market conditions such as the degree of supply and demand. Support levels form when there is an increase in buyers pushing the asset’s price back up, while resistance levels are formed when the number of sellers increases and pushes the price back down.

You can read more about how support and resistance levels work in this article.

Example of using support levels

Let’s assume you’re following ABC’s share price to try and identify when the best time would be to enter a long position. Over the past six months, ABC has traded between £13.00 and £18.00 a share.

As you keep watching the stock, you realise that the price climbs from £13.00 to £15.00, then drops to £13.00 again. It gains momentum and rises to £17.00 but drops to £13.00 once again. Every time the share price rises, it goes beyond the previous high, but when it drops, it never drops below £13.00.

You’ve now established that the support level is around £13.00, so you decide to buy ABC when it reaches £13.50, in the hopes that the price will go up soon.

Remember that the price is not guaranteed to increase. Therefore, it is important to conduct further technical analysis and fundamental analysis and not rely solely on support levels.

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