Mapping your Time Frame: Forex Pivot Points

Mapping your Time Frame: Forex Pivot Points

Submitted by adil on Mon, 01/13/2014 - 07:27

Forex traders determine things like when to enter the market, place stops and take profits by using various reference points (supports and resistances).  However, many new traders fail to recognize the risk defining point as they pay too much attention to different technical indicators. Unknown risk can definitely be problematic for you but the calculated risk will help you to improve the odds of success.

In this regard, the Pivot Point and its derivatives is a tool that aids in minimizing the risk while providing potential support and resistance. As a matter of fact, the traditional technical tools work better in combination with Pivot Points rather than alone. The Pivot Point tool can be used very effectively and profitably in Forex market and the following lines explain how.

Pivot Points 101:

The Pivot Points were originally developed for traders on future trades and equity but they have proved extremely beneficial for Forex market as well. As the large size of the Forex market guard against the market manipulation, the resistance and support levels provided by Pivot points actually work better in this market. In simple words, the Forex market follows support and resistance as well as other technical principals better than less liquid markets.

Calculating Pivots:

You can calculate Pivot Points for any time frame. The current trading day’s prices are calculated using   previous day’s prices. The general formula for calculating Pivot Points is,

Pivot Point for Current = High (previous) + Low (previous) + Close (previous)
3

Once you have calculated the pivot points, you can also use them to calculate the support and resistance levels for the trading day.

The Benefit of Using Pivot Points:

In order to get better idea of why pivot points are useful, take example of a EUR/USD currency pair and compile the statistics for how apart each low and high has been from each calculated resistance and support level.

To do the calculation,

• Calculate the support levels, resistance levels and pivot points with x number of days.
• Subtract the support points from low of the day (Low-S1)
• Deduct the resistance point from high of the current trading day (high-R1)
• Finally, find the mean of each difference.

To make things more clear, take the example of how Euro has been performing since its first trading day on Jan 4, 1999.

• On average, the actual low is 1 pip below Support 1.
• On average, the actual high is 1 pip high below Resistance 1.

For support and resistance level 2,

• On average, the actual low is  53 pips above Support 2
• On average, the actual high is 53 pips below Resistance 2

Judging Probabilities:

The above statistics clearly indicates that traders can have decent gauge of actual low and high of a trading day with the help of Pivot Points calculated for S1 and R1. Furthermore, the total number of trading days since inception of Euro according to calculated days for which high was higher than each R1, R2 and R3 and low was lower than each S1, S2 and S3 are 2,026.

The above information is very useful for traders to trade successfully. For instance, according to above data, the currency pair falls below S1 44% of the time. It indicates that probability is on your side and yow can place the trade with confidence. Similarly, probabilities are again with you as you know that highs for trading day exceed R1 only 42% of the time.

These are just probabilities and not certainties. The knowledge of calculating pivot points can help you to place trade at right times. The real power of pivot points lies in the fact that you can confidently identify support and resistance level beforehand and you also have accurate reference points to place limits and stops. Most importantly, you can put yourself in profitable position while minimizing your risks.