There is so much education, and so many books and articles on how to properly analyze price charts. While I find many flaws in the conventional wisdom regarding this topic, one certainly leads the pack and is the focus on this piece. The foundation of conventional chart analysis according to the trading books and all the education out there is “support and resistance.” When a new trader learns about these terms the light bulbs go off because support and resistance are turning points in markets and if you can identify turning points in advance, what more could you possibly need to do?
The trap here is that the new trader is unaware that conventional support and resistance rules help you identify turning points about as much as eating ice cream three times a day will help you lose weight. While there are many flaws with conventional support and resistance, I will focus on one important one in this piece to both help you understand it and help you profit for it. To make my points, let’s take a look at a recent live trading session with our students. This was a shorting opportunity in the Forex market in CADJPY.
Our live trading room instructor Bachir identified a supply level where banks were selling CADJPY. The blue lines on the chart represent targets 1 and 2 for this shorting opportunity. Our rule based strategy told us that the CADJPY was likely to rally up to supply, then decline to the blue lines before trading through the supply level. Notice the circled area on the chart which is the focus of this piece. Many traders would look at that area of congestion and conclude that price is not likely to decline through that area as there was lots of trading activity, a congestion of candles, which means support to many traders.
CADJPY: The Setup
That circled area actually represents the opposite or “support” if you know what you’re looking for. What will cause price to turn higher is a significant supply/demand imbalance. That circled area suggested no supply/demand imbalance. Notice how many candles are in that area. More importantly, how much time price spent there which is essentially the same thing. If supply and demand were that much out of balance, price would not spend that much time in that area.
The Logic: The less time price spends at a level, the more out of balance supply and demand is at that level.
Conventional technical analysis teaches traders that strong support and resistance levels are areas on the chart where you have lots of trading activity, many candles on the screen, and above average volume. If you think the simple logic through, I think you will find that the opposite is true as I am suggesting above.
As you can see, price met entry for us and fell right through that area and down to the profit targets. I do get emails from people in situations like that saying “support didn’t hold” or “it blew through demand.” My reply is always the same… That area is NOT an area that would cause price to turn higher, it is certainly not demand. In fact, we expect price to move right through that level because there is nothing to stop if from falling. What most will see as “support” is actually nothing.
The big flaw is that conventional technical (and fundamental) analysis ignores and doesn’t understand that the only focus of chart analysis needs to be unfilled buy and sell orders from banks and institutions, nothing else. In my example in this piece, not only does conventional technical analysis have the whole support and resistance concept wrong, it’s actually backwards.
Hope this was helpful, have a great day.
Sam Seiden – firstname.lastname@example.org