Fibonacci Retracements
Fibonacci Retracements Trading Strategy
Basics
Introduction
Fibonacci Retracements are ratios used to identify potential reversal levels. These ratios are found in the Fibonacci sequence. The most popular Fibonacci Retracements are 61.8% and 38.2%. Note that 38.2% is often rounded to 38% and 61.8 is rounded to 62%. After an advance, chartists apply Fibonacci ratios to define retracement levels and forecast the extent of a correction or pullback.
Fibonacci Retracements can also be applied after a decline to forecast the length of a counter-trend bounce. These retracements can be combined with other indicators and price patterns to create an overall strategy.
- Retracement levels alert traders or investors of a potential trend reversal, resistance area or support area.
- Retracements are based on the prior move. A bounce is expected to retrace a portion of the prior decline, while a correction is expected to retrace a portion of the prior advance.
- Once a pullback starts, chartists can identify specific Fibonacci retracement levels for monitoring. As the correction approaches these retracements, chartists should become more alert for a potential bullish reversal.
Fibonacci Ratios
Retracements
The Fibonacci Retracements shows four common retracements: 23.6%, 38.2%, 50%, and 61.8%. From the Fibonacci section above, it is clear that 23.6%, 38.2%, and 61.8% stem from ratios found within the Fibonacci sequence.
The 50% retracement is not based on a Fibonacci number. Instead, this number stems from Dow Theory’s assertion that the Averages often retrace half their prior move.
Based on depth, we can consider a 23.6% retracement to be relatively shallow. Such retracements would be appropriate for flags or short pullbacks.
Retracements in the 38.2%-50% range would be considered moderate. Even though deeper, the 61.8% retracement can be referred to as the golden retracement. It is, after all, based on the Golden Ratio.
Shallow retracements occur, but catching these requires a closer watch and quicker trigger finger.