Pivot Points

Exactly when and by whom pivot points were created is not easily found in a search of internet data bases. Books on technical analysis usually do not make mention of it. Ask your broker about the pivot point for the day or week of a particular commodity and most likely he/she will be confused by what you are asking; however, it has been known in inner circles for decades that floor brokers use them to set their buy and sell stops. Now isn’t that special?

With the above information as a precursor it should be obvious that trading without the knowledge of where the pivot points are and related two upper and lower support levels reside is like a mouse in a maze trying to find its way out. Why guess where markets are likely to stop and start when you can use a road map? A fellow broker with over twenty years of experience in the markets taught me the secrets of pivots a few years ago, and I have had a complete set on my desk each day since then as I battle these numbers constantly, but the shock quickly turned to recognition that this was a “keeper”.

What are they?

Some have referred to them as the “swing” numbers. The Pivot Point is the “neutral point in trading” from any prior time period. This point is created by taking the prior period’s high, low, and close and dividing by three. Prior period can be anything your heart desires. Most articles refer to the daily pivot point and its use in day trading; however, I have found it greatly rewarding to calculate them for weekly, monthly, and annual periods too. Once the Pivot Point is created you construct the first high and extreme high and the first low and extreme low from a series of formulas.

The first high and low and extreme high and low become lines of support and resistance when trading with Pivot Points. If you are familiar with Fibonacci lines of support and resistance you can visualize the five pivot point lines more easily. Think of the Pivot Point as the 50% retracement line. The first high and extreme high would be similar to the two lines above the 50% line in the fibonacci sequence. The first low and extreme low would be comparable to the two lines below the 50% line. The difference is that the Pivot Point is not the 50% point between the high and the low; instead, the pivot is that 50% point weighted by where the market closed for the time period.

Support and Resistance

We will spend a few moments now on the concept of support and resistance. Many of our readers may not be conversant at this point in their technical development with Bollinger, Standard Deviation, Fibonacci Retracement, etc., and it is not essential to be so to use Pivot Points. I make these references for those who can appreciate the comparisons; however, it is crucial to understand support and resistance if you are to benefit from pivot points.

As price is rising it will always find a level at which it has difficulty continuing to rise. This is a point of resistance, a ceiling to further price movement. When prices are falling they always find a point of support, or a floor beneath which they have trouble dropping. In any period of upward price movement (or downward) there will be many different levels of support and resistance, some more significant than others. The trick of successful trading is to outguess the market players you compete against, and a winning trader must have a reliable method of identifying these points that when broken can lead to significant trends. Once guessing correctly that a trend will start it is essential to have a good idea where the trend will stop, if even only temporarily.

In my opinion there is no better methodology to determine points of support and resistance than Pivot Points and their related highs and lows. Not only do the pivot points give the trader uncanny accuracy in determining where the market should find resistance and support, but they project where the market can travel in a specific time frame. What more could you possibly ask for?

As far as why markets tend to have points of support and resistance, the answer is as simple as typical humor that flies around a brokerage office. When an exasperated broker turns to his brothers and laments “does anyone know why crude oil keeps rising”?, another cynically snaps “more buyers than sellers”. In essence a market will continue to rise until the resistance point. The resistance point is when there are more sellers than buyers. Remember that the big players will take profits when correct to a small degree and not wait until they “hit the big one”. When a market has trended briefly in any direction you can expect significant selling or buying to take place. Those who went long need to sell to close out. Those who went short need to buy back to close out. Add to this equation the floor brokers who have stops set at Pivot Point numbers, and you have a pretty complete picture of why trading without knowledge of the pivots is likely going into battle without a gun.

How to Use the Numbers

Use of the numbers is quite simple, winning isn’t. Remember that pivot points alone will not guarantee you success in beating the markets. Nothing will guarantee you success in these treacherous waters. In addition to the numbers you need familiarity with numerous other technical indicators, both momentum and trend setting. Add to that savvy chart reading and analysis, a sense of the action as it unwinds, ice in your veins, and luck, and you are getting close to a reliable method of beating the markets. When I am day trading I have six screens saved each with twenty studies involving various technical set up on variable minute bar charts. The variable minute periods I use are 5,15,30,60, 120, and 240. Included in the layouts are charts with the daily pivot numbers delineated by trend lines I have added to the chart. When price passes one of these lines I turn to my army of screens and studies and determine if a play is valid. Once a pivot point number is violated and I turn to my six screens with 120 studies I work at light speed to make a determination within one to five minutes. The longer it takes me to feel confident the less my chances are. Am I tired at the end of the day? No, I’m dead!

Day trading aside you can make nice decisions using the weekly and monthly pivot point numbers for position trading. Position trading simply means you hold the position for more than a day. I have read articles by others who say buy when the market passes from below the pivot point to above it and visa versa. To me this is much too simplistic, but in reality that would provide much better decisions than the masses who have no idea what pivot points are. With respect to weekly and monthly pivots I would agree that if the market has been closing for three periods below the pivot and then closes at least two consecutive periods above it, you have a really strong buy signal. If you enter a month below the new monthly pivot (down trending market), and you get one weekly close above the monthly pivot, you could take more risk and go long then (instead of waiting for two or three closes). If you enter a week below the new week’s pivot and get one daily close above it you could make the same long decision (instead of waiting two or three daily closes). When you get a weekly close or two above an annual pivot the market was below, Katy bar the door because a storm is coming.

Aside from the above rules keep in mind that when a market confirms it has broken a pivot point or a related line, the projected ending point is the next pivot number up or down. This gives you an idea where to get out if you guessed correctly on the trade. Another useful thing to know is that when the market breaks above the pivot and travels to the extreme but closes below during the time period measured, you can expect the market to reverse courses and travel back down the pivot point ladder. Of course the same is true for the market that goes below the pivot point to the extreme low and closes above it during the time frame.

For a FREE 30 day trial of Daily and Weekly Pivot Points please email Bkozak@alaron.com.