A horizontal line is a component of technical analysis that traders frequently use for making investment decisions and finding profitable opportunities. The horizontal line, as its name implies, is actually the horizontal line that moves parallel to the abscissa axis. It defines support or resistance areas on price charts.
The same term is also used in geometric analysis. As mentioned, it runs parallel to the x-axis and refers to the same values on the y-axis.
Also, the horizontal line occurs in horizontal analysis as a part of fundamental analysis.
Horizontal Line in technical analysis
Technical analysis is based on the idea of analyzing previous market activity in order to predict it in the future. Investors’ decisions are often guided by price charts, which represent price level changes and organize the ever-changing situation on the stock market. They even might be considered as price “boundaries” (however, they do not actually limit the price in any way). Support and resistance areas are essential for analyzing the price behavior:
- Support refers to a temporary pause in a downtrend. In other words, the price doesn’t fall below the support level.
- Resistance refers to the temporary pause in an uptrend. Consequently, the price doesn’t jump above the resistance level.
Horizontal lines are drawn according to a swing low or swing high on the price chart. The lines might also be drawn through the several swing lows or highs, which reach the same lowest or highest points, correspondingly. It helps to visualize the areas of support and resistance more vividly.
The horizontal line is different from a trendline, which is also a component of technical analysis used in the price charts. While the horizontal line is horizontal, the trendline is more curved and follow the trend exactly.
Horizontal Line in trading
When support and resistance levels are depicted on the price chart, traders are able to monitor the price behavior. Let’s consider some possible scenarios as examples:
- If the price holds between the set boundaries of support and resistance, then a range-bound trading might occur as a strategy of getting profits from this price behavior. Due to horizontal lines, investors can predict the following price move and await for an appropriate price level to sell or buy assets.
- If the price breaks through the resistance level, it might indicate its continual growth. Therefore, some traders will set sell orders above the resistance area.
- If the price drops below the support level, it might signalize its further decline. Therefore, traders might place buy orders below the support area.
Note that all of these examples are simplified and reflect only the limited amount of trading options.
Example of the Horizontal Line in technical analysis
If you question yourself where to put the horizontal line on the price chart, different traders might answer you differently, because it’s quite subjective. Nevertheless, the horizontal line is considered to be most easily drawn. Basically, you should draw the horizontal line according to the highest swing or several swings on the price chart.
The chart below demonstrates the horizontal line of Halliburton Company. It defines the resistance level of the price that is around $29.80 per share.
The current Halliburton Company stock price is higher than the horizontal line, thereby it breaks out of the support area and shows the uptrend. If in the nearest future the price bounces back to or below the support level, the downtrend might be possible.
Generally, if you cross the horizontal line of resistance and set orders above it, you trade bullish. If, on the contrary, you cross the horizontal line of support and set orders below it, you trade bearish.
Sometimes, the situation isn’t that stable, as in the graph above. The price might fluctuate highly, therefore causing some troubles to the traders. However, at some point it will stabilize and show more or less distinct move.
Horizontal Line in horizontal analysis
Horizontal analysis is an aspect of fundamental analysis which study an impact of different macroeconomic and microeconomic factors on the market. Horizontal analysis is often used in financial statement analysis. It’s mostly based on comparing a company’s earnings, losses, or other financials over time by a certain base period. Therefore, the horizontal line serves as a benchmark in this type of analysis and helps to compute the degree of changes. Usually, these prices are quoted in dollars and the degree is presented in percentages.
In order to calculate this degree of changes, an analyst should specify the comparison and base periods; then, compute the change between these periods (in dollars) and divide it by an asset price of the comparison period; finally, multiply it by 100%.
For example, a company A earned $700,000 in 2020. The amount of earnings in the base year, which is 2018, was $600,000. For computing the degree of the company’s change in revenue, we have to define the dollar change between these years. It’s $100,000. Now we have all the data needed for computation:
$100,000 / $600,000 * 100% = 16.67%
The result means that in 2020 the revenue of the company A was above its earnings of 2018 by $100,000, or, in other words, was by 16.67% more than previously.
For this example, we use random numbers which don’t represent any actual data.
Horizontal Line in relation to the law of supply and demand
The law of supply and demand demonstrates how the price changes influence supply and demand of an item. Typically, this law works according to the following principles:
- When the price rises, supply rises as well, while demand falls down.
- When the price falls, supply also drops, while demand starts to grow.
If the supply and demand curves on the price chart form the horizontal line, it might indicate a flawless price elasticity of the item. This term refers to the change of demand towards the change of the price. For example, if the item’s price rises, but consumers completely deny buying the item for this price, then supply and demand of this item will form the horizontal line, and the item will demonstrate the perfect elasticity.