Pivot points work as a filter in all markets that have established ranges. They should be taken as powerful leading indicators in your technical analysis tool kit. Most of the other indicators used in technical analysis are lagging. Lag means they only inform you about the price action that has already taken place.
Pivot points inform you about the price action in the future. They are calculated based on a simple mathematical formula. It determines the next time periods range based on the previous time periods data. The formula is very simple and includes the low, the high and the closing price for that trading session divided by three.
If you dont know what a range is, then a range is the high and low of a given trading session. Markets are just people like you and me buying and selling. The high for each trading session represent the buyers exuberant bullishness in that session. The low for each trading session represents the sellers pessimistic bearishness for that particular trading session.
A pivot point is that special line drawn in sand where most traders turn from being bearish to bullish or bullish to bearish. These points are used in currency trading to tell if the market sentiment has shifted from being positive/long to negative/short. If the price is trading above the point, you should take a long position. And if the price is trading below the pivot point, you should take a short position.
Now lets calculate the pivot point for one trading session. Pivot= (Low+High+Close)/3. You can use a 4 hr chart to calculate the pivot point for the next session. Just plug in the values of low, high and close for the 4 hour session to calculate the next pivot point. Thus you can have 2 pivot points for each 8 hour session and 6 pivot points for the 24 hour session.
Take a long position as long as the price action is above the pivot point. Take a short position as long as the price action is below. The thinking behind the pivot points is simple yet powerful and highly insightful. If the buyers are willing to pay more for a currency pair now than they were 4 hours ago in the last session, than at least for the time being the markets are bullish and will stay so. Conversely, if the buyers are not interested in buying for the time being and the price is below the pivot point than for the time being the market will stay bearish.
Pivot point work like a filter for you. Accept only buy entry signal if the price is trading above the pivot point. And only accept the sell signal if the price is trading below the pivot point. We have used the example of 4 hour charts. You can also use daily, weekly and monthly charts.
Pivot point will help you determine the entry and exit for each position. They can also be used in conjunction with other technical methods. Pivot point analysis is a robust, time tested and a reliable market analysis tool.
Many novice traders ignore learning them considering them complicated. Its a myth. Learn how to use pivot points to determine the market sentiments in any timeframe. But always keep in mind; pivot point analysis is only a guide. These numbers are not the Holy Grail. These numbers can help you filter out excess information and avoid analysis paralysis from information overload.
