In this article, one can understand the pivot point and its implementation, which is a very important level for traders.
Pivot means the central point on which something turns or balances. Pivot points are the significant levels traders can use to determine price action based on potential support/resistance levels. It uses the prior period’s high, low and close to estimate future support and resistance levels. Traders believe that the price movement pays respect to these levels. This indicator was formulated for the floor traders originally, where they would calculate support and resistance. Traders use the to determine the entry and exit points along with stop-losses and targets.
How to calculate pivot points in trading?
There are several methods for calculating pivot points, the most common of which is the five-point system, a.k.a. the Standard Pivot Points.
Pivot Point (P) = (High + Low + Close)/3
Support 1 (S1) = (P x 2) – High
Support 2 (S2) = P – (High – Low)
Resistance 1 (R1) = (P x 2) – Low
Resistance 2 (R2) = P + (High – Low)
High, Low, Close depends on the timeframe one is analyzing. Generally, Pivot Points are used for intraday trading, so yesterday’s High, Low and Close are used. In 24-hour markets, such as the currency market, pivot points are calculated using New York closing time (4 p.m. E.S.T.). Also, some traders choose to use GMT for the open and close of a trading session.
Pivot Points for Time-frames
While initially designed for floor traders, the concepts behind Pivot Points can be applied across various timeframes.
|Timeframe of charts used||High, low, and close based on|
|1,5,10 and 15 min.||Data of previous day|
|30, 60, and 120 min.||Data of the previous week.|
|Daily charts||Data of previous month|
|Weekly or Monthly charts||Previous year data|
Types of Pivot Point in Trading
Alternative Methods: Another way to use the five-point system is the inclusion of the opening price in the formula as shown below:
Pivot Point (P) = (Today’s opening + Yesterday’s High
+ Yesterday’s Low + Yesterday’s Close)/4
Fibonacci Pivot Points: Its calculation is the same as Standard Pivot Points except for the fact that Fibonacci multiples are added/subtracted from the resistance and support levels, respectively.
|Pivot Point (P)||(High + Low + Close)/3|
|Support 1 (S1)||P – [.382 * (High – Low)]|
|Support 2 (S2)||P – [.618 * (High – Low)]|
|Support 3 (S3)||P – [1 * (High – Low)]|
|Resistance 1 (R1)||P + [.382 * (High – Low)]|
|Resistance 2 (R2)||P + [.618 * (High – Low)]|
|Resistance 3 (R3)||P + [1 * (High – Low)]|
Demark Pivot Points: It was developed by Tom DeMark, founder and C.E.O. of DeMARK Analytics. This system uses the following rules:
|Today’s Close<Today’s Open||High+ Low+Close+High =P||High = P/2 – Low
Low = P/2 – High
|Today’s Close>Today’s Open||High+ Low+Close+Low =P||High = P/2 – Low
Low = P/2 – High
|Today’s Close=Today’s Open||High+ Low+Close+Close =P||High = P/2 – Low
Low = P/2 – High
Pivot Point Trading Strategy
Price direction can be interpreted by looking at the price action relative to the pivot point, if it starts above or below the pivot point or crossing it, the S1 or R1 comes into play for setting targets. It can be used in the following 2 ways:
- One can determine the overall market trend if the pivot point price is crossed, one can place trades as per the bullish or bearish sentiment.
- It is used as entry and exit points, for instance, if a trader puts a buy limit order for 100 shares at some point above R1, and the price breaks the R1 then the stop loss can be placed at P and the target can be R2.
Limitations of Pivot Points
Pivot points are based on some calculations, and while they work for some traders at times, others may not make a profit with help of pivot points. There is no guarantee that the price will stop, reverse, or even reach the levels created on the chart. At times, the price can move in a range about the level and not form any trend that gives respect to these levels. Thus, one should use it as a part of their trading setup with other indicators and candlestick patterns.