Speed resistance lines (SRL) are especially good when a technician is looking at issues that are inside of strong trends. A chartist uses the SRL to determine support and resistance, and can be used by those interested in both short and intermediate phases as well as long-term outlooks. Simply put, the SRL measures the line of an uptrend or a downtrend.
Developed by the late Edson Gould, SRL is constructed by drawing a line from the most recent high of the uptrend down to the low of the same trend. Then you must divide the line into a third and then again into two-thirds. Having this done, the chartist will draw a line from the low point of the trend through these two points. The lines you have now created show the possible support on retracement. When studying a chart wherein a downtrend is occurring, one needs simply to reverse the process just discussed: every time an issue creates a new high or a new low, the speed resistance lines must be redrawn.
In Stocks and Commodities Magazine, Jayanthi Gopalakrishnan writes, “If you are considering entering a long position in a security that is rebounding from a downtrend, identify the major high and low, insert the speed resistance lines and the study the price action at the two-thirds line.”
Some traders use a 50% retracement as a rule of thumb, and many agree that a pullback from a major trend will always be within a range of 1/3 to 2/3 of the most recent upward movement; the 1/3 level is the minimum an investor can expect. At this level of 1/3 giveback an increase in trading volume will occur because of the increasing number of individuals that understand retracements and wait for them as an entry into the issue. Investors have also learned that, should the retracement continue to fall through the 1/3 level and past the one-half (50%) mark, the next support will be found at the 2/3 level. And again, for those of you looking at an issue that is currently showing a downtrend, the reversal is true.
In the first chart of SunMicrosystems Inc. (SUNW-Nasdaq), the first line is drawn from about the $5 mark in early Sept 1998 to the high mark of the uptrend in late Aug 2000, which is at about the $69 level. The 1/3 SRL is then drawn off the major high and major low is the 2/3 line. As the tech stock bubble burst, SunMicrosystems started the free fall, and, as you can see, the stock price was buoyed for a period of time at about the $42. The price action then bounced back to a high of $53 Dec 6 before continuing the slide downward. Seasoned technicians would have determined that, at this last
In the second chart of Canadian tech-giant Nortel Networks we see a downtrend that started in the late summer of 2000 and bottomed out Oct 2002, at about the $0.50 level. The 2/3 speed resistance line is drawn and the price action cuts through the line at about $1.50 in mid-November. As this was the first level of resistance, technicians waited to see whether or not investors were ready to come back into the arena of a somewhat risky penny stock. Little resistance was met here and the stock price continued to the 50% speed line, and it appears as though investors are ready again to invest capital in Nortel.
Speed resistance lines allow investors the opportunity to time their entry into an issue that they can determine has turned the corner of a downtrend and established a bonafide uptrend. On the flip side, it indicates to an investor holding a long position that the uptrend of that stock has run its course and that it is now time to sell.