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Friday, April 25, 2008

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Forex Pivot Points- Mapping Your Time Frame

It is useful to have a map and be able to see where the price is relative to previous market action. This way we can see how is the sentiment of traders and investors at any given moment, it also gives us a general idea of where the market is heading during the day. This information can help us decide which way to trade.

Pivot points, a technique developed by floor traders, help us see where the price is relative to previous market action.

As a definition, a pivot point is a turning point or condition. The same applies to the Forex market, the pivot point is a level in which the sentiment of the market changes from �bull� to �bear� or vice versa. If the market breaks this level up, then the sentiment is said to be a bull market and it is likely to continue its way up, on the other hand, if the market breaks this level down, then the sentiment is bear, and it is expected to continue its way down. Also at this level, the market is expected to have some kind of support/resistance, and if price can't break the pivot point, a possible bounce from it is plausible.

Pivot points work best on highly liquid markets, like the spot currency market, but they can also be used in other markets as well.

Forex Pivot Points

In a few words, pivot point is a level in which the sentiment of traders and investors changes from bull to bear or vice versa.

Why PP work?

They work simply because many individual traders and investors use and trust them, as well as bank and institutional traders. It is known to every trader that the pivot point is an important measure of strength and weakness of any market.

Calculating pivot points

There are several ways to arrive to the Pivot point. The method we found to have the most accurate results is calculated by taking the average of the high, low and close of a previous period (or session).

Pivot point (PP) = (High + Low + Close) / 3

Take for instance the following EUR/USD information from the previous session:

Open: 1.2386

High: 1.2474

Low: 1.2376

Close: 1.2458

The PP would be,

PP = (1.2474 + 1.2376 + 1.2458) / 3 = 1.2439

What does this number tell us?

It simply tells us that if the market is trading above 1.2439, Bulls are winning the battle pushing the prices higher. And if the market is trading below this 1.2439 the bears are winning the battle pulling prices lower. On both cases this condition is likely to sustain until the next session.

Since the Forex market is a 24hr market (no close or open from day to day) there is a eternal battle on deciding at white time we should take the open, close, high and low from each session. From our point of view, the times that produce more accurate predictions is taking the open at 00:00 GMT and the close at 23:59 GMT .

Besides the calculation of the PP, there are other support and resistance levels that are calculated taking the PP as a reference.

Support 1 (S1) = (PP * 2) � H

Resistance 1 (R1) = (PP * 2) - L

Support 2 (S2) = PP � (R1 � S1)

Resistance 2 (R2) = PP + (R1 � S1)

Where , H is the High of the previous period and L is the low of the previous period

Continuing with the example above, PP = 1.2439

S1 = (1.2439 * 2) - 1.2474 = 1.2404

R1 = (1.2439 * 2) � 1.2376 = 1.2502

R2 = 1.2439 + (1.2636 � 1.2537) = 1.2537

S2 = 1.2439 � (1.2636 � 1.2537) = 1.2537

These levels are supposed to mark support and resistance levels for the current session.

On the example above, the PP was calculated using information of the previous session (previous day.) This way we could see possible intraday resistance and support levels. But it can also be calculated using the previous weekly or monthly data to determine such levels. By doing so we are able to see the sentiment over longer periods of time. Also we can see possible levels that might offer support and resistance throughout the week or month. Calculating the Pivot point in a weekly or monthly basis is mostly used by long term traders, but it can also be used by short time traders, it gives us a good idea about the longer term trend.

S1, S2, R1 AND R2...? An Objective Alternative

As already stated, the pivot point zone is a well-known technique and it works simply because many traders and investors use and trust it. But what about the other support and resistance zones (S1, S2, R1 and R2,) to forecast a support or resistance level with some mathematical formula is somehow subjective. It is hard to rely on them blindly just because the formula popped out that level. For this reason, we have created an alternative way to map our time frame, simpler but more objective and effective.

We calculate the pivot point as showed before. But our support and resistance levels are drawn in a different way. We take the previous session high and low, and draw those levels on today's chart. The same is done with the session before the previous session. So, we will have our PP and four more important levels drawn in our chart.

LOPS1, low of the previous session.

HOPS1, high of the previous session.

LOPS2, low of the session before the previous session.

HOPS2, high of the session before the previous session.

PP, pivot point.

These levels will tell us the strength of the market at any given moment. If the market is trading above the PP, then the market is considered in a possible uptrend. If the market is trading above HOPS1 or HOPS2, then the market is in an uptrend, and we only take long positions. If the market is trading below the PP then the market is considered in a possible downtrend. If the market is trading below LOPS1 or LOPS2, then the market is in a downtrend, and we should only consider short trades.

The psychology behind this approach is simple. We know that for some reason the market stopped there from going higher/lower the previous session, or the session before that. We don't know the reason, and we don't need to know it. We only know the fact: the market reversed at that level. We also know that traders and investors have memories, they do remember that the price stopped there before, and the odds are that the market reverses from there again (maybe because the same reason, and maybe not) or at least find some support or resistance at these levels.

What is important about his approach is that support and resistance levels are measured objectively; they aren't just a level derived from a mathematical formula, the price reversed there before so these levels have a higher probability of being effective.

Our mapping method works on both market conditions, when trending and on sideways conditions. In a trending market, it helps us determine the strength of the trend and trade off important levels. On sideways markets it shows us possible reversal levels.

More Thoughts On Forex

forex signals

Although the role of the Forex broker is relatively redundant as a result of technological advancement and increased awareness, we cannot completely underestimate his role. The new paradigm shift has had something of a democratizing effect on the financial markets, and in the years that have followed a plethora of banks and brokerages have extended the range of their services to a new market by packaging up their online trading systems for the retail market, enabling the more modest investor to trade from their own computer screen - even on the previously out-of-reach currency markets. This is where the real role of Forex broker starts.

foreign exchange students

In the field of Forex trading systems, mechanical trading systems are techniques that make trading decisions for you. You input the trading data, and the system generates a response that indicates the appropriate action. You buy, sell, or do nothing depending upon the formulas this system uses and operates upon. The latest computer versions of these mechanical systems are complete "black box" operations (you cannot have all the emotion involved when you follow a specific system). Perhaps, that is one of the reasons that these systems are called mechanical systems. But that doesn�t mean that they aren�t intelligent enough. Turn the computer on, start the system, and it updates your database, and generates trading recommendations, and places your orders directly to the brokers.

foreign exchange students

When you are trading and investing in any market, including the Forex, you must have the discipline needed to be successful. Although the system is enormous and there is a lot going on that you won't be involved within, you must actively protect your investments. Your investments will not be protected just because they are in the market. A lot can change throughout a day, so you have to always be aware of what is going on in order to be fully protected to your best ability. You should always make logical and researched decisions when trading. It is not a system to use to "get rich quick". It is a serious financial system that can break your pocket if you are not careful.

forex trading signals

For traders, Forex trading provides an alternative to stock market trading. While there are thousands of stocks to choose from, there are only a few major currencies to trade (the Dollar, Yen, British Pound, Swiss Franc, and the Euro are the most popular). Forex trading also provides a lot more leverage than stock trading, and the minimum investment to get started is a lot lower. Add to that the ability to choose flexible trading hours (forex trading goes on 24 hours a day) and you have the reason why so many stock traders have flocked to day trade currencies.
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European Morning Update 23rd April 2008

Wed, 23 Apr 2008 01:41:53 -0400
Dollar stable before the European PMI numbers

Releases from Australia:

Forecast Actual
Q1 CPI (QoQ) +1.1% +1.3%
Q1 CPI (YoY) +4.0% +4.2%
Q1 RBA Trimmed Mean (QoQ) +0.9% +1.2%
Q1 RBA Trimmed Mean (YoY) +3.8% +4.1%
Q1 RBA Weighted Median (QoQ) +0.9% +1.3%
Q1 RBA Weighted Median (YoY) +4.0% +4.4%

April DEWR Skilled Vacancies (MoM) -2.2% (prior) - 0.8%
April DEWR Skilled Vacancies (YoY) -6.8% (prior) - 3.9%

Not good news for Australia as inflation leapt much more strongly than expected in Q1 with the headline RBA measurements seeing a +4.1% YoY rise in the trimmed mean and a +4.4% rise in the weighted mean. This is well above the RBA’s 3% upper band.

Of course, no prizes in guessing that energy prices fueled the rise. Automotive fuel was up by a hefty 5.4% and even more in pharmaceuticals – a massive 13.1% gain.

The figures brought out the Treasurer Swan who commented that inflation was broad based across the economy and still looks to add to price pressures over the coming months. It boosted the Aussie Dollar to the next resistance point, and a 24 year high at 0.9515 as traders anticipate higher interest rates again.

Releases from Japan:

March Forecast Actual
Merchandise Trade Balance Total JPY 1405bn 1119bn
Adjusted Merchandise Trade Balance JPY 890bn 770bn

And the squeeze on Japanese exports continues… March saw the adjusted trade balance fail to reach forecasts returning a 770bn surplus. This is an annual decline of 30.2%. Of course, no prizes in guessing that energy prices fueled the rise in imports. Overall imports have risen by 11.1% YoY while export growth has dipped to +2.3% YoY as U.S. demand fell again for the 7th consecutive month.

The following economic releases are due today:

February
Italian Retail Sales (MoM) - 0.1%
Italian Retail Sales (YoY) +0.6%
Euro-zone Industrial New Orders (MoM) - 0.4%
Euro-zone Industrial New Orders (YoY) +5.7%

March
French Consumer Spending (MoM) - 0.3%
French Consumer Spending (MoM) +2.8%

April
French Manufacturing PMI (P) 51.6
French Services PMI (P) 56.8
German Manufacturing PMI (P) 54.8
German Services PMI (P) 51.5
Euro-zone Manufacturing PMI (P) 51.6
Euro-zone Services PMI (P) 51.4
Euro-zone Composite PMI (P) 51.5

The Bank of England minutes are due to be released

Euro 1.60 has finally been achieved and the divergence between this and the Swissie is quite clear. Still we haven’t seen the latter move back to even retest the 0.9870 corrective low. The same goes for Dollar-Yen where losses have been limited.

So we continue to watch the target I have outlined as being a potential top – at 1.6065 – to see if this can be the final high for the year. Technically just about all pieces fit – bottoming Dollar cycles, weekly, daily and now intra-day indicators are displaying Dollar bullish divergences. There is perhaps just a little lack of divergence in the 4-hour chart but otherwise perfect.

Now all that we need is a catalyst and this is where we need to be alert. Clearly there aren’t many who feel comfortable buying Dollars so it hardly seems to be a suitable time to buy Dollars and close your eyes. However, it wouldn’t do to totally ignore the technical signals either.

If there was any news overnight that really hasn’t been discounted then it was the fact that the fifth German bank was taken under the control of the Bundesbank yesterday suffering from lack of liquidity under the weight of its property loans. Add to that the U.K.’s second largest bank having to go cap in hand to its shareholders to ask for a massive GBP12bn to replenish its capital.

Tough times indeed. The biggest problem I see facing the global economy is the diversion of consumer budgets to pay for increased energy and food prices and leaving less for “real economy” products. That is something facing the entire world and not just the States.

As a caveat on the Dollar bottom which I have been pointing out should be coming, these technical conditions are ripe for a reversal. However, they always require confirmation. What can happen at these times is a break of supports which allows the underlying trend to resume – and normally quite aggressively. Thus while I remain more bullish than bearish, given the situation there are greater risks than normal to this type of outlook.

Note important support and resistance areas:

USDJPY EURUSD USDCHF GBPUSD
Res: 103.92-05 1.6110-56 1.0161-07 2.0047-69
Res: 103.27-59 1.6042-71 1.0065-82 1.9997-25

Spt: 102.32-66 1.5932-45 0.9966-96 1.9880-98
Spt: 101.50-77 1.5840-86 0.9846-70 1.9785-04