Pivot Point Calculators compute at least 3 resistance points (R1, R2, R3) and 3 support points (S1, S2, S3). R3 and S3 serve as the major resistance and support respectively where much of the buy and sell orders tend to converge. The rest are minor resistances and support where you will also notice significant action. For intraday traders, these points are useful for timing their entry and exit points.
The use of pivot points is based on the theory that if the previous session’s price movement remains above the Pivot, it will tend to stay above the Pivot in the next session. Based on this, most traders tend to buy if the next session opens above the pivot and sell if the next session opens below the pivot. Others use the pivots as their effective trading stops.
There are traders who find the above method as too simplistic and too raw to serve their purpose and so they made refinements on the rule. They wait for at least 30 minutes after the session opens and observe the prices. They then buy if the price is above the pivot at that time. Conversely, they will sell if the price is below the pivot by the. The wait is meant to avoid being whipsawed and to allow the price to settle down and follow its normal course.
The other theory on which pivot points are based concerns the extreme pivots. Pivot point traders believe that prices tend to be more rigid as it approaches the extremes (R3 and S3). As a general rule, they never buy at the high neither will they buy at the low. This will also mean that if you have a previous buying position, you must close it at the approach of the extreme resistance point (R3). And if you have a previous selling position you must exit at the approach of the extreme resistance point (S3).
Pivot point calculators are mere tools to help you filter out the high probability trades. They are by no means a Holy Grail for forex trading. They should not be used as your sole determinant to trade the currency market. They are best used together with other indicators like MACD or better still with the Ichimoku Kinko Hyo indicator. Follow the general trading rule and trade only when your pivot points coincide with your other technical indicators. Remember to trade always in the same direction of the major price trend.
Another important thing you must take note of is the fact that your broker may also be using pivot points. If your broker happens to be a market maker then they are allowed to match all your trades meaning that if you buy, your broker can match it with a sell. Likewise, if you sell, it will be your broker who will be the buyer. As market maker, your broker can use the pivot points to juggle the price around between levels to attract buyers or sellers to enter a trade.
This usually happens during low volume trading days where prices fluctuate between the pivot points. This is how whipsaw losses occur and most frequently those who get whipsawed are traders who trade without regard to the major trend or the underlying fundamentals of the market.