Most of the trading during any given day is done by market makers and specialists.
Markets, no matter in what they deal, exist to facilitate trade and prices continually fluctuate between supply and demand to enhance the exchange process.
The market cannot exist in a state of paralysis so traders will constantly adjust bid and ask prices to keep the exchange going.
This process is a combination of a traditional auction to seek top prices and a Dutch auction to explore price bottoms.
Prices continually rotate enhancing trading. Therefore, prices of perceived value (support) and perceived over valuation (resistance) can be recognized by the volume of activity at different price levels.
Prices are moving up and as soon as they hit some imaginary resistance line they turn around and start falling until they hit the level of support.
Pivot Points are those price levels that are most likely to act as levels of support and resistance on any given trading day and you can calculate them with the following formula:
H = Previous Day’s High
L = Previous Day’s Low
C = Previous Day’s Close
Pivot Point PP = (H + L + C)/3
First Area of Resistance = R1 = 2PP – L
First Area of Support = S1 = 2PP – H
Second Area of Resistance = R2 = PP + H – L
Second Area of Support = S2 = PP – H + L
When the prices move through any known pivot points (PP, S1, S2, R1, R2) on increased volume, they are most likely to continue the current trend, and if the prices hit the known pivot point but are unable to move through, then they are most likely to reverse the current trend.
Pivot points are areas to be aware of and respect. They are both dangerous and positions of opportunity.
Knowing those points can help the trader to identify potential entry points and/or stop loss levels.