Pivot point trading is a method day-traders use to calculate support and resistance levels for a specific market. Most simply put, a pivot point is the level at which the market changes direction during the day. Pivot points have been a popular trading strategy among floor traders for years. I used pivot points daily in over 10 years of trading on the floor of the Chicago Board of Trade and now help clients trade using these levels.

The fact that so many traders use pivot points in their daily trading should make them relevant to anyone watching the markets. Pivot points are derived through simple calculations using the previous day’s (or week’s) high, low and close. The resulting points can be viewed as important levels of support and resistance. Because so many traders use pivot points, it’s easy to see the market reacting when prices reach these levels.

There are numerous ways to calculate pivots points, and I use a method that takes volatility into account. I write a daily free report of these unique pivot points for my clients, so if you’re interested in receiving a copy or learning more about them, feel free to call me at 866-231-7811.

How Pivot Points are Calculated

The most common way to calculate pivot points involves taking the previous day’s (or week’s) high (H), low (L) and close (C), along with two resistance levels (R1 & R2) and two support levels (S1 & S2). The pivot point (P) is calculated by simply adding the high, low and close, and then dividing by three. Below are the general equations for calculating pivot points (without volatility considerations):

R2 = P + (H - L) = P + (R1 - S1)
R1 = (P x 2) - L
P = (H + L + C) / 3
S1 = (P x 2) - H
S2 = P - (H - L) = P - (R1 - S1)

The general idea is to buy near support (S1) and sell near resistance (R1). The largest price movement is expected to occur at the pivot point (P).

Think of the resistance level as a ceiling and the support level as the floor. Many markets trade in ranges based on levels of support and resistance. If the market reaches its resistance point (the ceiling) and is having trouble breaking through it, the idea is to sell near that resistance point. And if the market is near the support level (the floor) and has trouble breaking it, the idea is to buy near that support level.

Trading Example

Let’s say you think the market is range-bound and you feel the market is near the ceiling (resistance). You may sell one futures contract in anticipation that the price will fall from this resistance point. However, you also want to protect yourself. You realize that if the market breaks through the ceiling of resistance, it may have a big rally.

To protect yourself, you may want to consider placing a buy-stop order above the resistance point (R1). Let’s say you place your buy-stop slightly above the resistance point so that you could buy two futures contracts if the market breaks resistance. The chart below displays this hypothetical strategy.

Suppose the market rallies and goes against your short position as displayed below.

You were short one contract. The market went against you, broke through the resistance, and rallied higher. Your buy-stop for two futures contracts is filled and you are now long one contract with the market rallying in your favor. Despite your original thought that the market would fall, you can limit your losses and possibly profit by trading in this way using pivot points.

Conclusion

Pivot points can be used in two ways. They can be used to determine the overall trend of a market or to enter/exit trades. Keep in mind that pivot points are short-term indicators and must be recalculated continuously to stay on top of the market.

You can combine pivot point indicators with other technical indicators to confirm the direction of the market. I like to incorporate volatility when calculating my pivot points to make them more relevant. I publish daily and weekly pivot point reports, called “Friedman’s Futures Forecast” for my clients. If you would like me to send you one of these reports for free, please feel free to call me at 866-231-7811.

Pivot points are one of the oldest technical indicators around, and in my opinion, one of the most reliable. But regardless, of whether you use pivot points or some other technical indicator, you have to have a system in place to trade profitably. You can’t just wing it.

Jeff Friedman is a Senior Market Strategist with Lind Plus. He can be reached at 866-231-7811 or via email at jfriedman@lind-waldock.com. You can register for his monthly webinar, Friedman’s Futures Forecast, by visiting the Lind-Waldock Web site.

Past performance is not necessarily indicative of future trading results. Trading advice is based on information taken from trade and statistical services and other sources which Lind-Waldock believes are reliable. We do not guarantee that such information is accurate or complete and it should not be relied upon as such. Trading advice reflects our good faith judgment at a specific time and is subject to change without notice. There is no guarantee that the advice we give will result in profitable trades. All trading decisions will be made by the account holder.

You can hear market commentary from Lind-Waldock market strategists through our weekly Lind Plus Markets on the Move webinars, as well as online seminars on other topics of interest to traders. These interactive, live webinars are free to attend. Go to www.lind-waldock.com/events to sign up. Lind-Waldock also offers other educational resources to help your learn more about futures trading, including free simulated trading . Visit http://www.lind-waldock.com/

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