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Fibonacci
Numbers
Fibonacci
numbers are the result of work by Leonardo
Fibonacci in the early 1200's while studying
the Great Pyramid of Gizeh. The Fibonacci series is a numerical
sequence comprised of adding the previous numbers
together, i.e., (1,2,3,5,8,13,21,34,55,89,144,233 etc..)
An interesting property of these
numbers is that as the series proceeds, any given number
is 1.618 times the preceding number and 0.618% of the
next number.
(34/55 =
55/89 = 144/233 =0.618) (55/34 =89/55 =233/144 =1.618),
and 1.618 =1/0.618.
This properties of the Fibonacci
series occur throughout nature, science and math
and is the number 0.618 is often referred to as the "golden
ratio" as it is the root of the
following polynomial x^2+x1=0 which can be rearranged
to x= 1/(1+x).
So that is where the fib # 0.618
comes from. The other fibs 0.382 and 0.5 commonly used
in technical analysis have a less impressive background
but are just as powerful in Technical analysis.
0.382=(1.618)=(0.618*0.618)
and 0.5 is
the mean of the two numbers.
Other neat
fib facts (0.618*(1+0.618)=1 and (0.382*(1+.618))=0.618.
Fibonacci
numbers are commonly used in Technical
Analysis with or without knowledge of Elliot
Wave Analysis to determine potential support,
resistance, and price objectives. 38.2% retracements
usually imply that the prior trend will continue, 61.8%
retracements imply a new trend is establishing itself. A
50% retracement implies indecision. 38.2% retracements
are considered natural retracements in a healthy trend.
When
applied on charts, Fibonacci
Retracement Levels are used as support and
resistance levels: 0.236, 0.382, 0.500, 0.618, 0.764.
0.382, 0.500 and 0.618  are the most important to
watch for.
To
apply Fibonacci Retracement Levels we first need
to be able to recognize a pattern as on the picture
below:
We
already know that market moves in waves. So for each AB
wave there is a BC retracement. As you probably already
guessed market consists of such ABCD wave patterns in
one big wave there could be many smaller similar pattern
waves. To apply Fibonacci Retracement Levels we will
need to find such patterns on our charts.
Let
us take a look at a real chart example:
Now
that we know how to identify patterns that we could
apply Fibonacci numbers to, we can take a look at
an example how this actually works:
Fibonacci
Extension Levels are used as targets for taking
profit: 0.382, 0.500, 0.618, 1.000, 1.382, 1.500,
1.618.
0.618, 1.000 and 1.618  here are the most useful for
traders.
Fibonacci
retracement and extension levels carry important
information for both experienced and novice forex
traders to help identify entry and exit points
during the trade.
Three
Fibonacci retracement levels: 0.382, 0.500 and
0.618  are used as points to enter the trade. Looking
at any chart it is obvious that the best entry position
would be at the lowest possible swing  e.g. at 0.618
retracement level.
But
the price tends to choose different levels to change its
direction: it can hit 0.382 and go straight back,
sometimes it gets to 0.500,and at times even pierces
deep to the 0.618 level. But still, if the price chooses
to respect Fibonacci rules it will stop at one of those
levels and Fibonacci
traders will already be waiting for this opportunity
to enter the trade.
When
plotted on the chart, Fibonacci
tool automatically shows predicted price extension.
This feature can be used to determine risk that trader
is ready to take in particular trade. Because we also
know where to set the stop loss, we can easily calculate
risk/reward ratio. In other words, it will be our money
management approach. It is considered wise to enter only
those trades that promise a 1:3 risk/reward ratio.
For
example, the trade is worth entering, when you have 30
pips of possible losses (in the case of unprofitable
trade when a stop loss order will be hit), and 90 or
more pips of potential wins in the case when trade will
turn winning.
Many
traders use Fibonacci numbers to set stop loss
ant take profits orders. It makes sense, because Fibonacci
retracements play a role of major support and
resistance levels.
Fibonacci
extension levels  0.618, 1.000 and
1.618  are used to set profit goals. So, what trader
needs to do after placing an order is just to look at
extension levels and set a «take profit»/ «close
trade» order. In more than 50% of the cases traders
tend to use a 0.618 extension level as the primary
target to lock in profit. If the market is very active,
traders can simply reset their positions and ride a
rally further to the next 1.000 or even 1.618 Fibonacci
extension point. For
traders who like to take additional protection steps and
trade safe, there is one more point to consider: such as
locking in some partial profits during the trade.
Although
Fibonacci method has its defined rules, many
forex and stock traders worldwide are using their own
combined styles and approaches, not to mention setting
different objectives for every particular trade. Because
of that we will be more comfortable with plotting two or
more Fibonacci retracements to see where
interests of majority of traders are merging.
And
so, merging Fibonacci retracement levels will
show more potential points at which the price might
reverse its direction. Same idea would also apply for
setting profit taking targets. Here trader should
closely look at the chart and tighten their profit
limits when the price gets closer to profit target zone.
The other option is simply to opt for the lowest
extension level and trade safe.
Topics
Related to Fibonacci Analysis:
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