  # A Step-by-Step Guide to This Famous Price Action Technique.  Sofienne Kaabar

2 years ago | 6 min read

Price action trading is based purely on price rather than its derivatives such as technical indicators. It enjoys a huge advantage in that it is not lagging. Price is what is happening right now and is either leading or coinciding but never lagging.

Price action is all about detecting patterns and finding support and resistance levels. One way to do this is through simple mathematical calculations referred to as Pivot Points.

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# The Concept of Support & Resistance Levels

At its purest form, a support level is an area supposed to keep prices from going down further. Naturally, when the market price approaches a support area, the right decision is to have a bullish bias. EURUSD hourly values showing 1.2175 acting as resistance before it turned support.

A resistance level is an area supposed to keep prices from going up further. Naturally, when the market price approaches a resistance area, the right decision is to have a bearish bias.

Pivot points are calculations used to find implied support and resistance levels. They are very simple and very easy to use. Some intraday traders calculate them every day and project levels that last for the duration of the trading day. Other traders calculate the levels on a monthly and on a yearly basis.

For example, on the first day of January, a trader might calculate the projected support and resistance levels using last year’s values. The formulas and types of Pivot Points will be discussed below.

# Normal Pivot Points

Normal or Classical Pivot Points are the most widely used type. They can be calculated following these formulas. Note that the most important levels are the Pivot Point and the first support/resistance levels.

We know how to use the latter but what about the former? What is a Pivot Point and how is it used? Basically, it can be used as a magnet where the market should revert back to it in case it deviates away.

Another method is to use it as the profit level where after initiating a reversal position, we can target the Pivot Point as an exit.

Calculating Pivot Points on the USDCAD hourly values.

The plot above shows the USDCAD hourly values where the calculation period is the previous day. We take the high, low, and close of the previous day, apply the above formulas and get the support and resistance levels.

The zone in light grey above shows the trading zone where we already have the defined support at 1.2030 and the defined resistance at 1.2100.

Basically, when the market closed the previous day, we had the following HLC data:

• High = 1.20950
• Low = 1.20275
• Close = 1.20650

Following the above formulas, our Pivot Point should be 1.2062 and the first support should be 1.2030. The first resistance is 1.2100.

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# Camarilla Pivot Points

Camarilla Pivot Points are similar to normal pivot points and they have been created by Nick Scott in 1989. They use the closing price of the previous day as well as the range (high of the day minus the low of the day) to find key support and resistance levels.

Normally, Camarilla pivot points are calculated for 4 different supports and 4 different resistance levels, however, the most important ones are the first three, with an emphasis on the third levels. The following are the formulas used to calculate camarilla pivots:

Calculating Camarilla Pivot Points on the USDCAD hourly values.

The plot above shows the USDCAD hourly values where the calculation period is the previous day. We take the high, low, and close of the previous day, apply the above formulas and get the support and resistance levels.

The zone in light grey above shows the trading zone where we already have the defined support at 1.2046 and the defined resistance at 1.2085. The Camarilla Pivot Points are usually tighter than the classical ones and are better suited for low volatility environments.

Basically, when the market closed the previous day, we had the following HLC data:

• High = 1.20950
• Low = 1.20275
• Close = 1.20650

Following the above formulas, our third support should be 1.2046. The first resistance is 1.2085.

# Fibonacci Pivot Points

Leonardo Bonacci, known as Leonardo Fibonacci has developed a sequence out of rabbit mating which has formed the basis for many mathematical observations. The sequence follows this distinct pattern:

The numbers are found by adding the previous two numbers behind them. In the case of 13, it is calculated as 8 + 5, hence the formula is:

The beauty of these numbers is a certain ratio, called the golden ratio. If we take any two successive numbers in the sequence, their ratio (X­n / X­n-1) gets closer to 1.618 which is what we call the golden ratio:

It is not important how we got to trading from these patterns as much as how important they are, therefore, we will discuss the ratios from a financial trading perspective.

Let us keep the 1.618 in mind as for the moment it is one of the two most important ratios that we will use in trading. Our job now is to find the rest of the significant ratios useful to us in trading.

They are all variations of 1.618 and its reciprocal 0.618. Notice how the reciprocal of 1.618 is simply 0.618. A reciprocal is when you divide 1 by the number. Squaring 0.618 gives 0.382. The Fibonacci Pivot Points can therefore be calculated as such:

Calculating Fibonacci Pivot Points on the USDCAD hourly values.

The plot above shows the USDCAD hourly values where the calculation period is the previous day. We take the high, low, and close of the previous day, apply the above formulas and get the support and resistance levels.

The zone in light grey above shows the trading zone where we already have the defined support at 1.2019 and the defined resistance at 1.2103.

Basically, when the market closed the previous day, we had the following HLC data:

• High = 1.20950
• Low = 1.20275
• Close = 1.20650

Following the above formulas, our second support should be 1.2019. The second resistance is 1.2103.

# Demark Pivot Points

The Demark Pivot Points have a condition embedded in them which makes them different from the other Pivot Points. We have three initial conditions which will determine the calculation based on a variable X:

• If the previous close is greater than the previous open, then:
• If the previous close is less than the previous open, then:
• If the previous close equals the previous open, then:

Now, based on the realization of one of the above conditions, we will have a fixed value for X which needs to be inputed into the following formulas to give us the Pivot Point levels.

Calculating Demark Pivot Points on the USDCAD hourly values.

The plot above shows the USDCAD hourly values where the calculation period is the previous day. We take the high, low, and close of the previous day, apply the above formulas and get the support and resistance levels.

The zone in light grey above shows the trading zone where we already have the defined support at 1.2046 and the defined resistance at 1.2114.

Basically, when the market closed the previous day, we had the following HLC data:

• High = 1.20950
• Low = 1.20275
• Close = 1.20650

Following the above formulas, our support should be 1.2046. The resistance is 1.2114.

# Woodie’s Pivot Points

The Woodie’s Pivot Points is extremely similar to the Classical Pivot Points and therefore do not bring much diversification factor to the table but it is worth presenting. The formulas are as follows:

Calculating Woodie’s Pivot Points on the USDCAD hourly values.

The plot above shows the USDCAD hourly values where the calculation period is the previous day. We take the high, low, and close of the previous day, apply the above formulas and get the support and resistance levels.

The zone in light grey above shows the trading zone where we already have the defined support at 1.2046 and the defined resistance at 1.2099.

Basically, when the market closed the previous day, we had the following HLC data:

• High = 1.20950
• Low = 1.20275
• Close = 1.20650

Following the above formulas, our Pivot Point should be 1.2062 and the first support should be 1.2031. The first resistance is 1.2099.

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# Conclusion

Price action analysis can be done in many ways and must be combined by other timing and technical tools so that it provides better reactionary signals. Pivot points is a must in the trading arsenal.

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Sofienne Kaabar

FX Trader | Author of the Book of The Book of Back-Tests Post

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