4.41 Forex Pivot points
In Forex trading pivot points are yet another, and quite popular, trading tools for analyzing the price -action to predict the future moves. Daily pivot points are derived from the previous day’s price action and are used to estimate the various resistance and support levels for the current day’s price action.
The dictionary defines a ‘pivot’ as a pin, point, or short shaft about which something rotates or oscillates.
In Forex a pivot point is exactly what the dictionary defined it as – a level that is a turning point for prices. It’s a technical indicator derived by calculating the average of a particular pair's high, low and closing prices.
We’ll go into the detailed calculations in the next chapters, but suffice it to say that pivot points are a great means for identifying areas of support and resistance. This is because along with the pivot point itself, we also get to calculate three (or more) levels of resistance above it, and three (or more) levels of support below it.
Since the pivot point is calculated using hard numbers, and there is only one formula for calculating a pivot point, the levels would be the same no matter who calculated them or where. That’s why there is no subjectivity (ifs-and-buts!) about these levels and they are easy to use. This is one of the main differentiator from other technical indicators where we need to use our own judgment, subjectively, while reading a signal. Pivot points are just pure figures.
Another feature of pivot point trading is that you do not have to worry about the market situation – you can use these in trending markets as well as in sideways markets.
Here’s a chart showing the pivot point (usually marked as PP), three resistances (usually marked as R1, R2 AND R3) and three supports (usually, S1, S2 and S3).
As you can see that the pivot point level came as the first support and once there was a breakout, the price continued downside. Note the price-action near other support levels.
Please note that it is always better to consider the resistance and support zones around the derived resistance and support levels, instead of targeting the exact price levels.
Let’s have a look on another chart where the price action broke above the pivot point level. Here you go:
As mentioned above, the pivot point levels are useful to both traders in a sideways market and in strongly trending markets.
In the following chapters we’ll study pivots in more detail and get our own little show on the road: P-P-P (PIVOT-POINTS-for-PIPS!).