Use Pivot Point in conjunction with other technical indicators to maximize trading success
A pivot point is a technical analysis indicator, or calculations, used to determine the overall trend of the market over different time frames. The pivot point also includes other support and resistance levels that are projected based on the pivot point calculation.
What is a ‘Pivot Point’?
A pivot point is calculated as an average of significant prices (high, low, and close) from the performance of a market in the prior trading period. If the market in the following period trades above the pivot point it is usually evaluated as a bullish sentiment, whereas trading below the pivot point is seen as bearish.
Figure .1.Illustration of Pivot Points
Construction of Pivot Points
Several methods exist for calculating the pivot point (P) of a financial instrument. Most commonly, it is the arithmetic average of the high (H), low (L), and closing (C) prices of the stock’s prior trading period.
Figure .2.Construction of Pivot Points
Working of Pivot Point
Pivot Points are predictive or leading indicators. Following are seven basic pivot levels on the chart:
1. Pivot Level (PP) – This is the middle and basic pivot point on the chart, important level.
2. Resistance 1 (R1) – This is the first pivot level above the basic pivot level, first resistance.
3. Resistance 2 (R2) – This is the second pivot level above the basic pivot point, and above R1; acts as break out point.
4. Resistance 3 (R3) – This is the third pivot level above the basic pivot point, and above R2 which is used as extended range.
5. Support 1 (S1) – This is the first pivot level below the basic pivot point; acts a strong support.
6. Support 2 (S2) – This is the second pivot level below the basic pivot point and below S1; acts as break down point.
7. Support 3 (S3) – This is the third pivot level below the basic pivot, and placed below S2 which is used as extended range.
On the chart Pivot levels are shown as parallel horizontal lines on the chart.
Types of Pivot Point
Based on underlying formula there are several pivot point systems attached below; however the most popular is standard or traditional Pivot Point formula.
> Traditional Pivot Point
> Fibonacci Pivot Point
> Woodie Pivot Point
> Classic Pivot Point
> Demark Pivot Point
> Camarilla Pivot Point
Figure .3. Traditional Pivot Points
Feature & Importance of Pivot Point
Pivot point is an important value for trading purpose whereas and the most important features are mentioned here.
> The simplest way to use pivot point levels are as regular support and resistance levels.
> Pivot Points for shorter time frame like 1-, 5-minute charts use the prior day’s high, low and close. In other words, Pivot Points for today’s intraday charts would be based on yesterday’s high, low and close. Once Pivot Points are set, they do not change throughout the day.
> The more times a stock touches a pivot level then reverses, the stronger the level is.
> When the price of a stock is trading above the pivot point it indicates the day is bullish or positive.
> When the price of a financial instrument is trading below the pivot point it indicates the day is bearish or negative.
> Support one / two (s1/s2) and resistance one / two (r1/r2) may cause reversals, but they may also be used to confirm the trend. For example, if the price is falling and moves below S1, it helps confirm the downtrend and indicate a possible continuation to S2.
> Pivot Point is typical mathematical tool and can be used without charts as well.
Trading using Pivot point (S1, P, R1)
Some key points to note while trading with pivot points.
> The key is to watch price action closely when these levels come into play.
> If price is nearing the upper resistance level, you could SELL the pair and place a stop just above the resistance.
> If price is nearing a support level, you could BUY and put your stop just below the level.
> Prices decisively trading above (S2) or (R2) pivots can give extended breakouts too.
Intraday trading using Pivot Point & EMA
Buying with PP
1. Price should be trading above EMA (5, PP) of pivot point (H+L+C/3).
2. Prices should be trading near pivot point (PP) or R1.
3. Stochastic oscillator should be trading below 30.
4. If price is nearing a buying level, you could BUY and put your stop just below the level, it gives better risk reward.
5. Book profit near next upside resistance point.
Figure .5. Pivot Point Buy & Sell Signals
Selling with PP
1. Price should be trading below EMA (5, PP) of pivot point (H+L+C/3).
2. Prices should be trading near pivot point (PP) or S1.
3. Stochastic oscillator should be trading above 68.
4. If price is nearing a selling level, you could SELL and put your stop just above the level, it gives better risk reward.
5. Book profit near next downside support point.
Traders should use the Pivot Point in conjunction with other technical indicators to maximize their odds of success.
The author is Head – Technical & Derivative Research at Narnolia Financial Advisors Ltd.
Disclosure: Narnolia Financial Advisors Ltd. does/do not have any holding in the stocks discussed but these stocks may have been recommended to clients in the past. Clients of Narnolia Financial Advisors Ltd. may be holding aforesaid stocks.
Disclaimer: The views and investment tips expressed by investment expert on moneycontrol.com are his own and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.