Support, Resistance, and Trend Lines

     Possessing some knowledge of technical analysis can benefit the average investor. Technical analysis focuses on historic stock prices and trading patterns, unlike fundamental analysis, which focuses more on the trends in earnings and other financial ratios. Some of the most basic areas of technical analysis encompass trend lines, and support and resistance levels.

    Technical analysts do most of their work with stock charts that represent each day's stock move with a vertical bar. Take a ruler and draw a line connecting two specific points on the chart and you'll see the support or resistance level for that stock. To plot the resistance level, connect the stock's two highest highs or two highest closing prices. The support level can be plotted in a similar manner by connecting the stock's two lowest daily lows or the two lowest daily closing prices. The resulting line can have an upward or downward slope, or be horizontal. The resulting line is also frequently referred to as a trend line. In addition to charts where each vertical bar represents the daily price movement of a stock, long-term trends can be seen by using charts where each bar represents weekly, monthly, or yearly data. In its simplest terms a support level is the price where buyers come into the market keeping the price from going lower. Buyers at this level believe the stock is very attractively priced and should go higher. A support level is like a floor stock prices usually bounce off of. Conversely, a resistance level is the ceiling a stock price can't seem to move above. The resistance level is where shareholders or traders feel uncomfortable believing the stock is overvalued and has much more short term downside potential than up side potential.

    Resistance, support, and trend lines are used to try to predict near term future price movement. A breakout above a resistance level is frequently a signal a stock will move higher. A breakdown below a support level can mean a stock will move lower, usually seeking the next support level. Positive trend lines are obviously more attractive than negative trend lines. Changes in trends, can be a flag of opportunities to come.