Feeling Let Down By the Technical Analysis Calls on TV? Read this...

Apurva Sheth
Imagine this. You are reading or listening to a technical 'experts' views on the markets or stocks published in a newspaper or on a channel.

The interviewer asks, "What is your view on Nifty?"

The Technical Analyst (TA) expert replies, "If Nifty breaks the resistance level of 8,050 it can go up to 8,200, 8,350 and if it breaks below the support level of 7,950 it can go down to 7,800, 7,700."

"Seriously, you call that a view? Even a primary school student would have answered that. He has read the number system and knows that 8,200, 8,350 follows after 8,000. You didn't share any 'expert' opinion with me."

You must be having similar thoughts when you read/listen such statements by experts. You may have laughed away at the expert or maybe even at technical analysis altogether.

You may be right in rejecting the so-called expert opinion as it serves none of your purpose. But neglecting technical analysis may not be a right choice.

I always see people taking commentaries on supports and resistance with a pinch of salt. And that's not their fault at all, because it's the technical expert who wants to play it safe and give views from both the sides. So that the next time he is asked for a view he can blow his own trumpet irrespective of whichever side the market moves.

Most analyst do not take a bold view with the fear of being wrong.

Analysts practicing technicals will use supports and resistances as a hiding place. While fundamental analysts tend to stick closer to the consensus estimates rather than making a bold prediction and fear losing one's reputation if things don't turnout as expected.

In the midst of all this the one person who is always at a loss is you. You may start feeling cheated and frustrated after losing your hard earned money to such advice. I have come across many people who have completely lost faith in any sort of research methodology be it fundamentals or technical. They loosely claim that nothing works in markets. It is just gambling.

It is not the tool or methodology which is at fault but the way in which we use is what matters. Before applying a particular method we should understand its application and limitations. It applies to support and resistances as well. I feel they are one of the best tools that a trader as well as an investor can use but due to the bad name it has got many people avoid using it.

Secondly people use them with half-baked knowledge and eventually end up with wrong conclusions. But, I want to re-emphasize that these are the best tools and so I will be devoting substantial time explaining these to you.

So let's just start understanding what are supports and resistances and the psychology behind the same.

So, what is a support?

Support is the price level at which demand is thought to be strong enough to prevent the price from declining further. The logic dictates that as the price declines towards support and gets cheaper, buyers become more inclined to buy and sellers become less inclined to sell. By the time the price reaches the support level, it is believed that demand will overcome supply and prevent the price from falling below support.

And what is a resistance?

Resistance is the price level at which selling is thought to be strong enough to prevent the price from rising further. The logic dictates that as the price advances towards resistance, sellers become more inclined to sell and buyers become less inclined to buy. By the time the price reaches the resistance level, it is believed that supply will overcome demand and prevent the price from rising above resistance.

Let me explain this in detail with the help of an illustration.

How Supports & Resistances are formed
Source: Profit Hunter

The stock halts in the midst of a fall and jumps back to point A and moves back to point B. The reason behind this fall can be anything. We are not concerned about that. All we are doing here is simply 'Observing' that prices are moving lower.You can refer to one of my first articles that I wrote on this topic)

At point A selling was strong enough to prevent any further advance while at Point B the demand was strong enough which resulted to a pullback to point C. Now at point C buyers who had bought at point B start booking profits while those who had bought at point A exit with no profit no loss. This results in a supply zone getting created at the trendline drawn along the points A and C. This becomes our resistance.

Now prices start tumbling again due to selling pressure from market participants pushing the prices down to point D. People who had bought in at point B made a good gain when they sold at point C, so when price reach similar levels again at point D they buy. There might be people who didn't sell at Point C after buying at Point B and may want to average at same levels. Thus interaction of all these people push prices up again to a higher level. This results in to a demand zone getting created at the trendline drawn along the points B and D. This becomes our support.

As I said earlier market is made up of lots of participants and they may have different reason to act to prices in the way they do. We should not bother about that, the fact that prices are moving and reacting to certain levels is what is important for technician.

Previous Supports now become Resistances
Source: Profit Hunter

Now supports and resistances work wonderfully for a while as prices react perfectly to the supply and demand zones until Point I. Prices fail to reach the previous resistance zone and reverses direction earlier than expected and penetrate the support line BD. They move lower to Point K and bounce back to Point L but couldn't move any further up and move below the Point K (Dow Theory Signal). The people who were enjoying buying at support levels (B, D, F & H) and exiting at higher levels are now in a losing position for the first time. They may be worried a little. Some of them may exit at Point L but many continue to hold their positions. They may panic once the stock moves below Point K. And may stumble to exit their positions leading to a fall till point M. Fresh demand emerges at Point M as people may see value in the stock (which is again very subjective) and pushes the prices upwards. However, all through this there are many buyers who had entered at Point B, D, F, H & J who are hoping and praying for the prices to come up to their buying level so that they can exit at least with a no profit no loss. This makes Point N as a very strong resistance as many sellers are waiting for their prices thus reinforcing the previous support level to a resistance level now.

One key point to learn from this is that the reason why support and resistance levels work is more psychological than fundamental. People remember their prices at which they buy or sell. This price becomes their 'Anchor' and they make their decisions based on this anchor.

Another lesson to learn from this is that people who were enjoying trading within these range and especially those who had entered at either of Points B, D, F, H & J are perplexed and are even frustrated when they see prices breaking a support zone. They would doubt support and resistance theory when prices would penetrate the support levels.

Let me tell you that support and resistance levels are like floors of a building. Having a floor at a particular level does not mean that the elevator has to stop at each and every level. The elevator can and does directly go from 20th Floor to 15th Floor. It may not stop anywhere in between. The same principle applies to stock prices. This is the half-baked knowledge I referred to you all earlier. Most technicians fall into this trap, even people following advice on support and resistance should understand this thoroughly. No level is sacrosanct in markets. Like records, supports and resistance are meant to be broken one day or other.

Do you feel that Technical Analysis Advice doled out on TV is often dumb? Have you ever incorporated support and resistance levels advised by them in your trading or investments? Share your views in the Club or share your comments here.

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7 Responses to "Feeling Let Down By the Technical Analysis Calls on TV? Read this..."
09 Jul, 2016
very well written ,excellent learning , price action is more about not wat happens to the price but how u respond to it defines the trading success Like 
Shekhar Mandrekar
21 Jun, 2015
VERY well written article with examples Like 
Harish Nayak
21 May, 2015
You mean the whole speculative game based on 3 parameters Demand, Supply & Psychology. Nice article.Like 
11 Jan, 2015
Very niceLike 
09 Jan, 2015
concepts are explained nicely and its quite useful for meLike (1)
09 Jan, 2015
support and resistance were well explained.....both these terms are purely psychological as u sa. they definately have an impact on the price but its very difficult to measure. share trading i feel is more of a crowd reaction than logical behaviour which can be analysed and predictedLike 
07 Jan, 2015
I feel that I am learning somthing meanigful, though not fully by the explanations you are giving. As I have not traded so far I am unable to comment over this. Like (1)
We request your view! Post a comment on "Feeling Let Down By the Technical Analysis Calls on TV? Read this...". Click here!