Introduction
While around for many decades, pivot points have grown in popularity since the 90’s with what has been an increasing focus on intraday trading. Pivots are derived from a simple calculation based only on the previous period’s data and are designed to provide traders with potential support and resistance levels for the coming session.
While pivots certainly do not fall into the ‘Holy Grail’ category, I have found them very useful for intraday trading, both as a signal for short term direction and as entry and exit levels.
This article will set out the calculation of pivots and some ideas on how to use them.
Calculation
For one sessions’ data (high, low and close), there are five calculations. The first is the mid pivot (MP):
MP = (H+L+C)/3
The MP is simply the average of the high(H), low(L) and close(C). From here four more levels (two support and two resistance) are derived from this figure:
As you can see from this calculation, pivot levels assume some sort of trend or correlation is readable from the previous session’s data. That is, after a bullish session, where the close is the nearer the high, the next day will hold a bias for further upside by way of higher pivot levels. Likewise for a bearish day (lower close = lower pivot levels).
Charting Pivots
When I first started using pivot points, it was a matter of tapping numbers into Excel and printing out a ‘daily levels’ sheet before the bonds opened. Then someone showed me how to program my Telerate Computrac (anyone remember that one?) and things became a little easier.
These days many software packages will have a pivot calculation built it. The way eSignal displays pivots is quite useful. Using Chart Options -> Formulas -> Pivots, you can display not just the different pivot levels, but pivots calculated over different time frames.
For example, you can show monthly pivots on a daily chart or daily pivots on a 60min chart. It’s really handy. At first, the five added lines on a chart can look like too much information, but it does not take long to get used to.
Different Time Frames
As implied above you can have pivots points calculated over one time frame (e.g. monthly high low and close) applied to another time frame (e.g. a daily chart). In fact, this is where you’ll get the most value from pivots, particularly daily pivots on intraday charts.
How To Use Pivots
The traditional application is to use the break of a session’s Mid Pivot as a directional signal then setting the first target as the Pivot High or Pivot Low, depending on the direction of the break. A continuation through this first level would then set the 2nd Pivot High/Low as the next target.
In these days of choppier intraday trading, the mid pivot is less significant and the 1st and 2nd pivot levels work best in range bound markets for selling strength or buying weakness.
Among those that use pivots, there are probably dozens or hundreds of trading rules and ideas. I’m not going to try to define all of these, but here are a few I have used:
A RANGE BOUND MARKET. Pivot levels can work as good targets and entry levels for buying weakness and selling strength. To find a good example, I didn’t have to look far. The first chart I pulled up was a 30 minute Dec S&P with daily pivot levels. There are several times throughout the one day where the market found support/resistance at pivot levels as shown below.
Back in 1998, I wrote an article about pivot points and I mentioned that the first pivot and mid pivot tends to be of most use in range bound markets. Judging from the above, that is still useful today.
TREND = GENERALLY BULLISH. 1st and 2nd Pivot Low levels are great for buying any intraday weakness in a market that is considered generally bullish. Allowing for a margin for error, setting buy levels a few points above and stops a few points below can offer a good rate of success with relatively low risk. Targets can then be set at the 1st or 2nd Pivot High levels.
Below is an example of Feb Gold in the middle on a bull market finding support at the 1st pivot low twice in one day.
TREND = GENERALLY BEARISH. As you’d expect, 1st and 2nd Pivot High levels are great for selling any intraday strength in a market that is considered generally bearish. Allowing for a margin for error, setting sell levels a few points below and stops a few points above a pivot can offer a good rate of success with relatively low risk. Targets can then be set at the 1st or 2nd Pivot Low levels.
TREND = STRONG BULLISH/BEARISH. When a market is moving in one way or another without taking a breath, you generally do not have the luxury of buying weakness (in a bull market)or selling strength (in a bear market). In these markets, pivots still have their use. Some use pivot levels as you would a breakout level. That is buy on a break of the Pivot High or sell on a break of the Pivot Low. Generally I have found less success with this method as it does rely on a market having one strong direction without a pullback. To each their own…
Other Pivot Trading Tips
- Determining the Trend. It’s common to use ADX or MACD to determine the direction of a trend. For using pivots at an intraday level however, a better idea is to use a shorter signal for a trend. Such as a break from an existing volume area or channel.
- Confluence. Try using pivot levels with other support/resistance calculations such as Fibonacci or psychological levels. A level will take on greater significance if it is backed up by another.
- After-Market. For those markets with electronic sessions along with floor trading (e.g. Globex markets), using the combined session data will result in more accurate or significant levels.
- Timeframe. Always keep an eye on the pivots levels from the next time frame up. That is, if you are trading intraday, use daily pivots. If you are trading off daily charts, use weekly or monthly pivots.
- The Good, the Bad and the Ugly. The best markets for using pivots are ones that have a decent amount of volatility. The worst markets are those that have either very low volatility or changing volatility. Using pivots in a fast market (extreme volatility) can be hazardous to your health – but you could say that for many trading methods out there.
Conclusion
Calculating pivot points is a method for estimating support and resistance levels and seems best suited to short term trading. The general interpretation of pivot levels however are not set in stone. Please feel free to experiment with pivot points either as a reference for target levels or as a potential signal of market trend.
