In the previous lesson, we understood what pivot points are. However, it is also necessary to understand how these levels are calculated. So, in this lesson, let’s go ahead and figure out how these levels are marked and comprehended.
Before getting right into it, let’s brush up the previous topic real quick.
- The pivot point is an indicator used to identify Support and Resistance levels.
- It is a static indicator, unlike the other indicators that move with the price.
- It helps in determining the overall trend of the market in any given timeframe.
- It is calculated using high, low, and close values.
Below is an image of how pivot points look when applied on the charts. As already mentioned, S stands for Support, R stands for Resistance, and P(PP) stands for Pivot Point. Now we shall see what exactly is S1, R1, S2, R2, etc.
Calculating Pivot Points
Different levels of Support and Resistance are shown when calculating the Pivot point’s support and resistance levels, and they are represented as S1, R1, S2, R2, etc. Now, let’s calculate each one of them. The Pivot Point P(PP) value is given by the average of the high price, low price, and the close price.
Pivot point P(PP) = (High + Low + Close) / 3
First level Support and Resistance Formula:
First Resistance (R1) = (2 x P) – Low | First Support (S1) = (2 x P) – High
Second level Support and Resistance Formula
Second Resistance (R2) = P + (High – Low) | Second Support (S2) = P – (High – Low)
Third Level Support and Resistance Formula
Third Resistance (R3) = High + 2(P – Low) | Third Support (S3) = Low – 2(High – P)
In the above formulas:
High represents the high price from the previous trading day,
Low represents the low price from the previous trading day, and
Close represents the closing price from the previous trading day.
Note: Since the forex market is open 24 hours, the New York closing time, i.e., 5:00 pm EST, is taken as the previous day data. For example, if you want to calculate the levels for Wednesday, you must consider the values of Tuesday.
Comprehending Pivot Points
In this indicator, we came across three levels, namely, Pivot point level, Support level, and the Resistance level. Let’s now understand what they actually depict.
The pivot point is a level drawn at the price of the average of the High, Low, and the close price of the prior trading day. So, if the market falls below the pivot point level on the subsequent trading day, we say that the market is showing bearish sentiment. And if the price goes above the pivot point, we say that the indicator is indicating bullish sentiment.
When it comes to the Support and Resistance levels, their meaning is the same as that of the actual Support and Resistance that is defined in the industry. The Support level is the price at which the market tends to shoot up, and Resistance is the level where the market tends to fall.
This brings us to the end of this lesson. In the coming lessons, we will understand how to trade the markets applying the Pivot Points indicator.