Personally, my style of trading is classified as swing trading or momentum trading. I look for short term reversal in prices and capitalise on that in order to make a profit.
The question remains, where do you close your position and take profit? This largely depends on your risk appetite and trading style. The more aggressive traders would have their take profit further away while the more conservative would have it closer.
However, Pivot Points provide a very good estimate as to where short-term support and resistance are located. Basically, these are areas where prices then to bounce on.
This is helpful to me in 2 ways:
1. It helps me determine if a reversal pattern is valid (aka, if it occurs near a pivot point, the reversal is more valid then if it occurred randomly)
2. It helps me determine my take profit in order to calculate whether my risk-reward ratio is acceptable based on my risk appetite.
Let's look at a recent trade that I made, Skechers USA Inc:
The highlighted candlestick is a reversal pattern known as "Hanging Man". All the yellow lines are known as " Pivot Points".
Pivot Points (Standard) have the following labels and there are calculated as follows:
Pivot Point (P) = (High + Low + Close)/3
Support 1 (S1) = (P x 2) - High
Support 2 (S2) = P - (High - Low)
Resistance 1 (R1) = (P x 2) - Low
Resistance 2 (R2) = P + (High - Low)
The source of the high, low and close depends on what time frame you are using to view your charts.
- Pivots for 1, 5, 10, 15 charts use the prior day's high, low and close.
- Pivot Points for 30 and 60 minute charts use the prior week's high, low and close.
- Pivot Points for daily charts use the prior month's data.