Using Rolling Pivots and VWAPs as Trend Filters

We‘ve all heard the saying that “the trend is your friend, until it isn’t”. There are many ways of defining it, but the easiest is simply comparing a number of recent highs and lows. An uptrend will have higher highs and higher lows, a downtrend lower highs and lower lows whereas a set of horizontal highs and lows points to a sideways trend.

ZigZag

Next, we’ll want to distinguish between near-, intermediate- and major trends. Traditionally, anything more than 6 months was considered a major trend, intermediate between 3 weeks and 3 months, and near term trend is anything less than 3 weeks.

As day-traders however, we can consider something as short as a 2-3 day move a major trend. The intermediate will then be a few hours and we’ll look to time our entries with anything less than a 5 min chart (alternatively using a low resolution tick, volume or range chart). A trend following approach will then focus on aligning major with the intermediate trend perspective and use the near term trend to time the entries. In an uptrend, a near term trend “correction” or retracement will be used to locate long entries.

An important issue to consider when determining trends in the futures markets is that we’re faced with two main trading sessions: Regular Trading Hours (RTH) and the Night Session. Of course, there’s also the Evening Session, however, when talking about trends, we’ll focus on the Regular and the Night sessions, as they account for more than 95% of the price data.

Regular-Session-Evening-Session-Night-Session

For index, interest rate futures and certain commodities, there will be considerably more volume during hours when the local traders are active. They are mostly physically located in the timezone of the exchange where the contract is traded. For example, looking at the E-mini index futures contract, you’ll want to determine the trend based on what’s going on with the underlying equities in the U.S. stock market. These companies are traded during the RTH session (8.30 AM – 3.15 PM, Central Time).

RTH-Volume

The price data during the Night Session is mainly an echo of what’s going on in Asian and European markets during their regular hours. In most cases, this information will not be accurate for determining major and intermediate trends for the U.S. equity market.

Therefore, setting higher highs and higher lows, or lower highs and lower lows on a chart that includes both Regular and Night Sessions will be misleading. We will encounter the same problem using a moving average, or any other indicator that includes the low-volume Night Session in its look-back period (such as the ADX for example). Two thirds of the price-data will include information not produced by the underlying assets! The alternative, omitting the Night Session data altogether will produce price gaps and likewise, inaccurate trend analysis.

Regular-Session-Gaps

One way of avoiding this is by working with a rolling pivot calculation as suggested by Mark B. Fisher in his book The Logical Trader. We then take the highest high, lowest low of the past 3 days and the close/settlement of the current Regular Session. If the market trades above this level, we’re in an uptrend, if it’s below, we’re in a downtrend. The ideal trade entry will be in the direction of the major trend when the market retraces towards the value area as represented by the 3 day rolling pivot range, namely the Directional Pivot (DP), Central Pivot (CP) and the Main Pivot (PP).

ZigZag-Rolling-Pivot

The Rolling Volume Weighted Average Price calculation can be applied in a similar fashion. We then use a moving window of the accumulated VWAP over for example the past 3 days. This way we may compare where price is moving in relation to todays 3day rolling average, as well as examine where where the 3 day rolling average was located 1 and 2 days ago. Again, if the price is moving above the rolling average, we’re in an uptrend, if it’s below, we’re in a downtrend. The ideal trade entry is in the direction of the major trend when the market retraces towards the value area as represented by the 3 day rolling VWAP.

Rolling-VWAP-Trend

For the rolling VWAP, we use price data from the entire ETH session (Regular, Evening and Night Session) as the low volume Sessions will have very little impact on the accumulated average.

To sum up, the Session Pivot and VWAP indicators are in a better position to give us accurate trend information. To isolate the RTH session you’ll need set up a custom session template. If you’re not sure of how to set it up, get in touch with us and we’ll help you out.

Otherwise, this post will be followed up by a webinar on how to use rolling Pivots and VWAPs in a trading strategy. Register for the webinar in the blue box at the top of this page, see you then!