Psychological support and resistance levels are the price levels the the markets react to them sometimes very strongly. Why? Because of the psychological impact they have on the markets participants’ minds.
As you know, the price movements, or volatility, is nothing but the result of the actions of the markets participants. When most of them decide to buy, the price goes up and visa versa. So the price movements is just the matter of what the markets participants think. If they think the price will go up, and so they have to buy, and then they really buy, the price will really go up.
It is the same when the price reaches one of the psychological support and resistance levels. The price turns around just because the market participants think that the price can’t break below or above a special level, just because of the special appearance that the level has. This is something that you can see a lot on the Forex market. For example, when EUR/USD reaches the 1.4000, it stops from going up, turns around and goes down. You can see it on EUR/USD price chart. This is what it exactly did. Just check the EUR/USD daily chart and you will see it.
Maybe you say the price turning points is related to the important news and economic events and has nothing to do with these numbers. This is so true. But aren’t those who decide to change the interest rates and thing that impact the price strongly, humans? They are humans and their minds also react to those special numbers. For example they think they can allow the EUR/USD price to go above 1.3500, but above 1.4000 is really too high and it can make problems, and so, they shouldn’t allow it to do that.
Let me give you another example that you have seen a lot but maybe you’ve never thought about the reason.
Have you ever asked yourself why the stores sell something for $95 or even $99 but not $100?
You have never seen that they sell something for $100, $1000 and $10,000. Instead, they sell it for $99, $995 and $9,995.
They take a few dollars off but this small discount makes a big different in their sales. If they sell something for $1000, maybe nobody buys. But if they sell if for $995, all of those who need it, will buy it. Do you know why?
It is exactly because of a mental and psychological reaction that forms in the peoples’ minds while they have no idea about it. $1000 is a really big number in everybody’s mind. But $995, although it is only $5 less, it not a big deal at all. Your mind thinks $1000 is way too expensive. But it doesn’t show the same reaction to $995 whereas $995 is expensive as well. It is just the mind’s stupidity. There is no logic behind.
You have to consider this in different aspects of your life in addition to trading. For example, when you want to buy a $1,100,000 property and you have to make an offer, don’t offer $950,000 because the seller rejects immediately and it is possible that he doesn’t even sign back your offer. Instead, offer $1,000,000. If so, the seller thinks “Wow! he wants to pay one million dollar…”
He signs back the offer immediately and he either accepts your offer, or offers a little higher price, for example $1,050,000. Then you can either accept, or make a new offer for $1,020,000. This time he will definitely accept your offer because he thinks that you are a great and serious buyer and if he rejects you, he will never be able to sell his property for such a good price.
You should use this psychological trick, or I’d better to say technique, only when the property is really good and you really like it.
These are all psychological reactions and there are a lot of emotions behind them. Most of these decisions are made based on the emotions and nothing else. Salespersons and marketers know that if you see the $1000 price in their stores, you walk away instantly and you run away from that product and you will never come back. But if they give away just $5, you will buy it.
It is the same with the stock, Forex and all the other markets. The price changes its direction when it reaches AN IMPORTANT NUMBER like 1.4000, 1.5000 and so on, just because of the psychological reaction that the markets’ participants’ minds form against these numbers. That is why these numbers are called psychological support and resistance levels because they act as support and resistance levels because of the psychological reaction of the market participants to them.
You can see these reactions on all the markets and securities. Just check the charts and you will see them. For example, EUR/USD that turned around at 1.4000 and 1.2000:
Let me show you a live and ongoing example.
The below chart, shows the GBP/USD reaction to 1.2000 level which is still on going. GBP/USD was going down very strongly, but it turned around and started going up when it reached the 1.2000 level.
The first time (the left arrow), it turned around even before it reaches the level. It was because of the fear of 1.2000 level. Then bears tried to take the price down once again and they even took it few pips below the 1.2000 level, but they couldn’t overcome their emotions against the 1.2000 level (because it is a strong psychological support level), they gave up, and the price went up again, and is still going up. As you can see (the right arrow), the second price reaction to the 1.2000 level was really strong and it formed a huge bullish candlestick with a big body:
How Can You Trade the Psychological Support and Resistance Levels?
As a trader, you should wait for the markets reaction first. You can’t buy or sell just because the price reached or it is close to an important psychological levels like 1.2000, because sometimes the market doesn’t pay any attention to these levels. So you can’t risk your money because you THINK that the market WILL react to a special level. A good trader is the one who waits for the market to decide first. Then he will follow the market. You can’t decide for the market. It is the market that decides for you. It is the market that has to form a trade setup first. You can’t go ahead of the market and take a position before the market decides where to go.
I have written this article to tell you that you should be aware of these things and not to risk your money just because people say that there is a strong psychological level somewhere and the price is close to it. It is stupid to trade and risk your money because of what people say, and before you see any strong price reaction and trade setup.
Psychological support and resistance price levels are important only when the market reacts to them and forms a trade setup above, below or around them, otherwise, as a trader, you have to sit on the fence and wait.
To become such a professional trader, you have to develop your trading skills to know the strong trade setups. You should also develop your patience. It takes time. You have to be patient.