The majority of trading in a day is by floor traders or "locals" as they are called. These locals constantly take prices up and down between short term levels of support and resistance. Trading for the day will persist between these relatively narrow range unless "outside" buyers and sellers are attracted to the price changes that occur.
If the narrow range of support or resistance established by the floor traders can be wrestled from them, then off floor short term traders will be attracted and enter the market, as buyers if short term resistance is overcome or as sellers if short term support is violated. These breakout points then usually reverse their function and serve as test points, i.e. previous resistance becomes support and previous support becomes resistance.
Now the active range of trading expands as the off floor traders enter the fray. Now new levels of support and resistance are likely to be established. If these new levels of support and resistance can be successfully breached, then longer term traders, position traders, with an intermediate or long term commitment to the market will be attracted to join the market.
If one knew the range parameters of support and resistance used by floor traders one would have a handle on the significant areas where off floor and possibly position traders may take over the market direction from the rotating locals.
Well the locals calculate from the previous day's range the pivotal or inflexion price and the areas of support and resistance. The calculations are very simple and the results invariably have an influence on the market activity of the day. In fact, if no other information that relates to the market becomes available then the locals' parameters may dominate the day. There are several closely related formulae for calculating the following day's pivot support and resistance levels.
So unless significant market news has been made available between yesterday's close and today's opening you can expect locals to take prices to test the near term support and resistance and the pivot price. Should, for any reason, these near term support and resistance areas fail then the second such area will likely be tested. If these second levels of support or resistance areas fail, because of market influencing news, the off floor or, more particularly, intermediate term positional players will likely enter the market and make the market trend further on the day.
So these floor trader derived pivot, support and resistance levels are areas to be aware of and respect. They are both levels of danger and levels of opportunity for the following reasons:
Stop orders to enter at these points are readily whipsawed by locals 'floor sweeping the stops' as they rotate up and down the anticipated range
If support or resistance is forthcoming it offers a low risk entry point with a close Stop loss point identified
Failure of support and resistance offers a low risk entry point with a close Stop loss point identified in what is likely to be a trend emerging from the 'local' noise of the market
Even if you are not a day trader, knowing the key pivot, support and resistance points can help the short term off floor and intermediate positional trader to identify potential entry points and stop loss levels for your trade if your other criteria have determined the direction in which you should be trading.
Make it a daily ritual, calculate the pivot point and the areas of support and resistance levels after the close each day for the markets. Study the next day's price action in the context of those pivot, support and resistance levels so that you get familiar with the dynamics of the market.
