Support and Resistance Area Bounce Forex Strategy


Support and Resistance Area Bounce Forex Strategy

“Look left!” That is one of the simplest yet profound thoughts you could get in the trading world. Why? Because trading using technical analysis is simply trading the markets using historical information.

Most traders trade based on technical indicators, and that is totally fine. If a trader has an edge against the market using a combination of lagging indicators, then that is fine. Each to his own. However, trading based on what price has done on the price chart gives traders the raw data as to where the market previously saw price to be too expensive or cheap. That is why we look left.

Support and Resistance Area Bounce Forex Strategy 1

Notice how price usually respects areas where the market thought price was too expensive or too cheap, and therefore reversed. Price usually does reverse at the same area because many traders in the past decided price was cheap or expensive and therefore bought or sold.

These areas are called horizontal supports and resistances. Supports and resistances could take many forms. It could be diagonal using diagonal trendlines. It could be dynamic using moving averages. Or it could be horizontal such as what is shown above.

The advantage of horizontal supports and resistances though is that, unlike trendline based diagonal support and resistances, you wouldn’t need to connect two highs or lows to start observing it as a possible support or resistance. You would need just one high or low, and extend its area to the right. This gives you the advantage of knowing when and where to observe price’s behavior.

I also prefer looking at these supports and resistances as an area. Price is so dynamic because it is moved by millions of traders trading the currency pair all over the world and for different reasons. For this reason, price usually don’t stop at exact points. That is why I think we should be looking at horizontal areas, not lines.

The ZigZag Tool

Properly identifying highs and lows is a skill that is learned through practice and screen time. Even seasoned traders find it hard because it is often subjective. But there is no need to worry. There is a tool that we could use to make things easier for us. The ZigZag indicator.

The ZigZag indicator connects highs and lows creating a zigzagging line across the price chart. This makes it easier for traders to identify the highs and the lows.

Support and Resistance Area Bounce Forex Strategy 2

How to Trade Using Support and Resistance Areas

The first step is to identify the highs and lows on the chart using the ZigZag indicator. To identify the height of the area to be extended on a swing high, we will include the high represented by the upper wick up to the body of the candle. On a swing low, we will include the low of the candle up to its body.

Support and Resistance Area Bounce Forex Strategy 3

Then we should identify the supports and resistances that were not yet broken-through by price. Areas that were broken-through should be removed, while areas that were not yet broken through should stay. Of those that were not removed because price has not yet broken through it, the support and resistance that is most adjacent to the current price are the only two support and resistance that should remain on the chart.

Support and Resistance Area Bounce Forex Strategy 4

For example, we started analyzing the chart on the point indicated above. The chart should look like what is shown above after the analysis. Only areas that were not broken-through by price, which are closest to the current price are what remains as areas of support and resistance.

The last thing we should be doing is to wait for price to reach any of these areas and observe how price reacts to these areas.

As soon as price reaches any of these areas, prints a reversal candle and closes below it on a resistance area reaction, or above it for a support area reaction, we have a trading setup and could enter the trade.

The Trading Setup: Entry, Stop Loss & Take Profit

On this trading setup, price touched the resistance area and reacted to it. Therefore, we have a sell setup.

Sell Entry: As soon as price touched the resistance area, reacted to it, and closed below the resistance area with a bearish candle, we enter the trade.

Stop Loss: The stop loss should be a few pips above the resistance area.

Target Take Profit: The target take profit should be a few pips above the closest unbroken area of support.

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This is one of the most logically sound strategies that a trader could have. It basically trades on areas where price was previously deemed too high or too low.

By doing this, traders won’t have to chase for price. Instead of going into a chasing mode, traders get into a waiting mode, like a sniper waiting for price to get into his crosshairs and entering the trade at the exact area where the trader is expecting price to reverse.

However, these types of trades should be done properly. There are times when price doesn’t bounce off the area, but instead breaks-through it. Therefore, just as a sniper does, the main characteristic that traders should have is patience. We should be waiting for the close of the candle. By doing this, we get to avoid trades with failed setups.

Another thing to take note of is computing the risk reward ratio prior to entering the trade. Some support and resistance areas are too wide causing the stop loss to also be too wide. This is fine if the next area of support or resistance is far from the entry, allowing for a positive risk reward ratio. However, if the stop loss is too wide, and the target take profit is too low, it might be wise not to enter a low risk-reward trade.

All in all, this type of trading setup is a sound strategy. Combine it with other strategies that helps identify reversals, then it could be more powerful.

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