An Introduction to Pivot Points
One of the most common and costly mistakes of new traders is after identifying a trend, not knowing when to enter and depart. Often they come in after the trend has reached its peak, or exit way too late and consequently lose their money. In order to prevent this, seasoned forex trades use Pivot Points.
In layman's terms, Pivot Points are used by forex analysts to determine when the value of a currency might change, or a trend might reverse position. By scrutinizing the Pivot Points, and its support and resistance levels, an analyst will be able to decide whether to buy or sell.
Pivot Points are calculated by computer software, but one can make the computations on his own quite easily. A forex trader simply takes the pertinent data from yesterday's trading (the high, low and close) and adding them together. As with Elliot Waves, there are sub levels in Pivot Points, but this should not concern the new trader.
The important parts are the Pivot Point, the Resistance and Support levels. Usually there are two stages for each level, and are symbolized by R1, R2, S1 and S2.
The first thing that a trader should analyze is the forex currency price and its relation with the Pivot Point. As a rule of thumb, if the price is above the Pivot Point it signifies a bullish forex, and if it is below the contrary is suggested.
There are several courses of action a forex trader can take based on the resulting data. If the price falls below the pivot line, you can install a Stop/Loss order above that point and sell when the price reaches the first support line. Alternatively, you can wait for the price to reach the second support line, as a sort of confirmatory signal.
The reverse forex strategy would be employed if the market was bullish; set up the Stop/Order under the Pivot Point and keep a close watch on the two resistance levels. Most traders wait for the two levels to be crossed, as passing by the first level could be a false signal.
The strength indicator of a Pivot Point lies in how often the forex price stays in its vicinity. The longer the price stays there, the stronger and more reliable the pivot lines are.
However, there are a few caveats to watch out for. Chief among them is that Pivot Points can be sometimes unpredictable. There will be times when the forex price will just stop short of the pivot line, and at other instances, it will cross the line but then fall back sharply.
There are ways that a forex trader can alleviate the situation. The first is to use multiple trading timeframes, which will give a better picture of the trend and the Pivot Points as well. Second, a market uptrend will almost always see the pivot lines broken through, while in a trendless market the lines will hover between R1 and S2.
As with all technical analysis tools, Pivot Point sound more complicated than they actually are. After trying it out for a few times you get used to it quickly, and soon you will be able to manage your trades more easily and profitably.