Trading Up-Close: Pivot Points

Pivot points are a tool that floor traders and market-makers have used for decades to predict the next trading day's intra-day support and resistance levels.  Pivot points are calculated using the previous day’s high, low and close. You don’t actually have to do the math, because the trading platform will do it for you.

At Schwab the pivot-point tool shows you seven levels. First, the pivot point itself, the orange line here--considered the equilibrium point--that’s the point around which the next day’s trading is expected to occur. And then, six other pivot levels, the blue lines--that’s three resistance lines above the pivot point R1, R2 and R3 and three support levels below it named S1, S2 and S3. That gives you a lot of data that you can use to determine when to enter a trade, when to exit a trade and where to place your stop. This data is important because all pivot levels can act as intra-day support or resistance. Think about them like rungs on a ladder. A break up through any pivot level is a bullish indication and suggests that there may be further upward movement to the next rung--and this signals a possible buying opportunity.

On the other hand, if the stock falls through any of the pivot levels, it is a bearish indication, and suggests an opportunity to short the stock. You can also use pivot points to set short-term targets for your trades. Let’s look at an example. As soon as a stock breaks through the pivot point to the upside, you might buy, with a potential target of R1. Here you might choose to sell some, or let them ride to the next target which could be R2. Similarly, if a stock drops down below the pivot, you might consider setting a downside target of S1. If it stays there and then drops further, you could short it with a target of S2.

So, remember, a break through any pivot level can indicate an opportunity. If the stock or index has been rising, and then starts to reverse, you can short this same stock or index you were previously long. Besides setting targets, pivot points can help you manage your risk by indicating where to set appropriate stop losses. For example, if you buy a stock because it broke through a pivot level, you might consider placing your initial stop under that level, to limit downside losses in case the stock reverses. If it continues rising and goes up through the next level, you could raise your stop to below that next level to attempt to lock in upside gains. Similarly, if you are short a stock because it broke down through a pivot level, you might place your stop just above that level to limit losses in case it moves higher. Remember, there’s no guarantee your stop order will be filled at or near your stop price.

Pivot points are often combined with other technical indicators, like moving averages and MACD, to gain added confirmation. To learn more about technical indicators and how to use them, watch the other videos in this series and subscribe to our You Tube channel.