Fibonacci Made Easy

I don’t know why, maybe because those “forex coaches” like to make money off newbie traders, but for some reason with most things in forex the simplest of things are turned into insurmountably complex ideas and theories that leave people frustrated and confused instead of educated and empowered. And never has this been more true than in the case of Fibonacci Levels. More literature and debate has gone into this area than most of the other 1,001 indicators, and more “experts” use them to baffle and confuse traders than any other indicator. But it only shows that these lines are hugely popular and important to trading success. And I am about to give you a very simple lesson on how to use them.

Why are Fibonacci Levels so important?

Just as support/resistance and pivot point lines work so well because big banks and thousands of successful traders use them in their trading strategy each and everyday, the same goes for fib levels. It becomes a self-fulfilling prophecy when so many people see the same things and interpret them in similar ways. They work on any timeframe and with any commodity (oil, gold, stocks, futures, etc.).

Traders use these lines for two crucial reasons:

They are great at predicting where a retracement will likely end and they are great at predicting where the price action will continue towards once the retracement period had ended. So in other words fib.levels tell you where you can jump back into a major trend when a currency pair starts retracing and where to take profits on that same trade once the pair resumes in the direction of the main trend.

How do fib lines do this?

Continuing along with the above two points, you can think of fib. levels as having two distinct functions: retracement levels and extension levels. One tells you key levels to watch for support/resistance during a retracement, the other tells you where you should set your T/P once the trend resumes its original course. Here’s a pic that shows how I used fib. lines to predict where the EUR/USD was headed after a brief retracement period.

But you don’t have to use them in-conjunction with each other. What I mean is that I use the retracement levels the most for predicting price levels worth re-entering in the direction of the main trend. Once I see a major trend has begun, I wait for a reversal in price action to take place (retracement), throw my retracement levels up on the charts, and then wait to see when price action meets resistance/support at a key fib level such as the 61.8 or the 50, and that’s where I re-enter.

How to draw fib levels

So let’s go over what that pic showed you. First in order to draw your retracement and extension lines you need a swing high and swing low point (points A and B in the picture). Now there’s no science behind picking these two points because everyone interprets their own charts a little differently, so you try to get as close as possible to what everyone else sees. How do you do that? One good method is to look for long wicks on the candle sticks because that usually indicates that a reversal is in the making.

Once you can clearly see that price action is in a true retracement you wait and see at what level does the price action encounters support (in a up trend) or resistance (in a down trend). Usually that level corresponds to the 38.2, 50, or the 61.8 retracement levels. Aggressive traders will jump into a position right at each one of those levels with their S/L 10 pips above it, then if that didn’t work out and price continues to the next retracement level, they will jump back in again. This explains why price action appears to be in a tug-of-war at certain times. At some point the retracement period will end and then price action will continue back in the direction of the trend and those aggressive traders will make up for lost pips.

A conservative trader, like myself, will just wait and see where price action actually did finish retracing, and then jump in a little late but safer and with

less stress, still knowing where the trend should meet support/resistance again based on the extension levels. I would rather go for 80% of the safe pips than try and snatch up the 10% to 20% of the pips that I miss out on through waiting. Remember in trading it’s not about how much you make, its how much you make AND can hold onto in the long run.

Rules for success when using fib lines

So what are the rules for where price action will go once we see its finished retracing and back to trending in the original direction again? Again, this is not an exact science here so you don’t want to just place your T/P right on one of these lines, as prices may not quite reach the line, since other traders are interpreting their own fib lines and acting accordingly too. But in general the rules go:

23.6 will continue on to 118 or 127

38.2 will continue on to 138.2

50 will continue on to somewhere in between 138.2 and 161.8 (use other indicators to know where)

61.8 will go to 161.8.

The big ones to always watch for are the 38.2, 50, and 61.8 retracement levels and their corresponding extension levels. I’d say about 75% of the time those levels are the ones that end up being hit.

Setting this up in MT4

So the last thing I need to do is tell you how to draw these lines within your MT4 platform. Sorry for those of you who use other platforms, but you still learned the bulk of the lesson. Now for certain reasons, MT4 designed their platform to have two separate fib tools, one for retracements and one for extensions. But as I just showed you, both of them are used in conjunction with the other, so I just combined them into the retracement tool so that I don’t have to draw the lines separately. Here’s how to do it.

Place a fib retracement on your graph (it’s the 7th button from the lower left row of your chart toolbars in MT4). Then go to Charts, then Objects, and then click on Objects List where you will see the “fibo line” as it’s listed as. Highlight it by clicking on it once, and then click on edit to your right. Once in there you can input levels of your own. Input the levels in this order: 0.0, 23.6, 38.2, 50, 61.8, 78.6, 86, 100, 127, 138.2, 161.8, 261.8, 423.6. And in order to see the price at each fib level, click the Fibo level tab, then type next to the numbers in the description, %$. This will give you the corresponding price for each level you have selected.

Now whenever you go to draw a fib retracement you’ll have both the retracement lines and the extension lines drawn simultaneously!

There’s two more points I have to address here. The first is the “bonus” levels of 261.8 and 423.6. You’ll see these levels reached sometimes when applying fib’s on the lower timeframes and they are bonus rounds you could say for an extension. The rules you follow to know if the bonus round will happen is if you see the 161.8 level broken AND then retested as support/resistance AND it holds up as such. In that case your likely going to see the 261.8 target hit and if that holds up as support/resistance you can expect 423.6 to be reached. Lock in profits behind the 161.8 line just to be safe.

The second rule, and this is a real crucial one, is that fib’s are ALWAYS to be used in conjunction with other indicators. They are not a standalone kind of thing where you can base your decisions exclusively on these lines. You should have moving averages telling you what the main trend is doing, your own support/resistance lines as well as pivot points confirming retracement and extension levels, and whatever other indicators you specifically rely on to make decisions.

Author

Matthew Shifflett
www.forex-nation.com

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The Most Powerful Indicator

Of all the trading tools I have ever used by far my favorite tool for analysis is Fibonacci studies.

This is such a large and complex study that I shall not even pretend to be an expert in this area.

Instead I would like to demonstrate how I apply a limited knowledge of the subject to my trading.

We shall only be discussing three primary Fibonacci ratios and not minor ratios, ovals, arcs, bands or the time axis.

First Some History

Leonardo Fibonacci da Pisa was born around 1170 the son of a city official and merchant. He became a prominent mathematician and is credited with the discovery of what we now call the Fibonacci series.

After a trip to Egypt he published his now famous Liber Abacci (Book of Calculation) in which amongst other things he comes up with the sequence of numbers.
1,1,2,3,5,8,13,34,55,89>>On to infinity
If you add one of the numbers in the sequence to the number before it you get the next number in the sequence e.g. 3+5=8 and so on.

After the first few numbers in the sequence if you measure the ratio of any number to that of the next higher number you get .618 to 1 e.g. 34 divided by 55 equals 0.618. The further along the sequence you go the closer to phi you will get.

If you measure the ratio between alternative number you get .382 e.g. 34 divided by 89 = 0.382 and that’s about as far into the explanation as I care to go. As a trader you don’t need to know any of this. All you need to know is if your charting software has Fibonacci capabilities. If it does then that will work everything out for you.

The three Fibonacci ratios we shall use are .382, .500 and .618 and how we can use them in our day to day trading.

In an uptrend measure the distance between point A and point B and in a downtrend measure the distance between point A and point B where point A will always be the lowest recent point in an uptrend and the highest recent point in a downtrend.

In the example below you can see a chart of the daily JPY/USD. Point A is 119.09 and Point B is 123.16. If you calculate the 38.2% retracement you get 121.61, the 50% retracement is 121.13 and the 61.8% retracement is 120.64. For example. The difference between 119.06 and 123.16 is 4.07. If you calculate 38.2% of 4.07 you get 1.55. If you then take 1.55 from 123.16 (Point B) you get the 38.2% retracement of 121.61. You can use the same principal for the other retracement levels.

In our next example of the 1-minute Dow Jones Point A is 7.916.08 and point B is 7.877.70. If you calculate the 38.2% retracement you get 7892.36, the 50% retracement is 7896.89 and the 61.8% retracement is 7901.42. For example. The difference between 7.916.08 and 7877.70 is 38.38, if you calculate 61.8% of that you get 23.72. If you then take 23.72 and add it to Point B of 7.877.70 you get 7901.42 the 61.8% retracement. The only difference between the downtrend and the uptrend is that you add your calculations to Point B and in the uptrend you subtract from Point B.

So how can we use all this information? Well, you would be amazed just how many times a security will find support or resistance at Fibonacci levels. I think a large part of this may be that so many traders use this technique in their analysis that it is a self-fulfilling prophesy and part because it falls into the natural order of the market.

I apply this technique by first identifying a trend in the market I am following. As soon as I can see that there is going to be a retracement I them calculate my retracement levels.

I then enter at the 38.2% retracement level and place my stop loss behind the 61.8% retracement level. If I feel the difference between the 38.2% and 61.8% level is to great a risk I drop down a time frame and use the same technique but get a much tighter stop.

In our next lesson I shall show you how to work out targets with Fibonacci, you will then have a logical place to enter the market, a logical place to put your stop and a logical target.

Good Trading

Mark McRae

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Who was Fibonacci? By Mark Deaton

Leonardo Pisano, was Italian mathematician born in Pisa during the The middle Ages. He was renowned as one of the most talented mathematicians of his day. . The name Fibonacci itself was a nickname given to Leonardo. It was derived from his grandfather’s name and means son of Bonaccio.

While most attribute the Fibonacci Sequence to Leonardo, he was not responsible for discovering the sequence. In 1202 Leonardo published a book called, Liber Abaci. In it he derived a method for calculating the growth of the rabbit population.

Suppose a newly-born pair of rabbits, one male, one female, are put in a field. Rabbits are able to mate at the age of one month so that at the end of its second month a female can produce another pair of rabbits. Suppose that our rabbits never die and that the female always produces one new pair (one male, one female) every month from the second month on. The puzzle that Fibonacci posed was….

How many pairs will there be in one year?

At the end of the first month, they mate, but there is still one only 1 pair.
At the end of the second month the female produces a new pair, so now there are 2 pairs of rabbits in the field.
At the end of the third month, the original female produces a second pair, making 3 pairs in all in the field.
At the end of the fourth month, the original female has produced yet another new pair, the female born two months ago produces her first pair also, making 5 pairs.

This mathematical progression is now recognized as the Fibonacci Sequence. Starting with zero and adding one, each new number in the sequence is the sum of the previous two numbers. In our example, 0+1 = 1, 1+1=2, 1+2=3, 2+3=5, and so on.

The sequence of numbers looks like this: 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, 233, to infinity. From this sequence you can easily reason that at the end of one year there would be 233 pairs of rabbits.

This sequence has repeatedly appeared in popular culture from architecture to music to television. While the series is a powerful tool, the analysis of one number with the number up to four places to the right. The first three are shown below.

While some are not exact, if you repeat this mathematical analysis through multiple sets of data, you will see we arrive at some well known and fairly consistent ratios.

The dimensional properties adhering to the 1.618 ratio occur throughout nature and the ratio is most referred to as The Golden Ratio. The uncurling of a fern and the patterns found on various mollusk shells are commonly cited examples of this ratio.

This number, when added to 0.618, equals 1.

These ratios have been used for over a hundred years in the financial markets by the likes of W.D. Gann and Ralph Nelson Elliot. Up until the late 90s the tracking and use of these numbers were a manual process.

With the proliferation of real-time charting and data, software that automatically calculated and displayed these levels brought Fibonacci into the financial mainstream.

Fibonacci as a Technical Analysis Tool
While there have been countless books and articles written on the use of Fibonacci in technical analysis, the basics are simple. Fibonacci Trading is an art form anyone can master with a little practice.

On the price scale, these ratios, and several others related to the Fibonacci sequence, often indicate levels at which strong resistance and support will be found. Many times, markets tend to reverse right at levels that coincide with the Fibonacci ratios. On the time scale Fibonacci ratios are one method of identifying potential market turning points. When Fibonacci levels of price and time coincide you have high probability entry points.

Author

Mark Deaton
www.fibonaccigenius.com

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Fibonacci Summary by Mark Deaton

Fibonacci ratios are one of the most commonly used techniques in technical analysis of the financial markets. If you are already a successful trader or a trader just starting out, Fibonacci Retracements provide valuable insight and triggers on where high probability change will happen.

The Fibonacci Retracement is likely the most common of all Fibonacci related tools. While there are many variations of the ratio set, I think simple is better.
23.6% — The shallowest of the retracements. In very strong trending markets price typically quickly bounces in the area of this ratio.
38.2%— This is the first line of defense of the current trend. Breaking this level starts to erode the underlying trend.
50% — the neutral point of any retracement. This is the critical tipping point.
61.8% — retracing to this typically signals a breakdown in the trend.
100% — Matching the initial move
138.2%
161.8%
200%
Within this set, 38.2%, 50% and 61.8% I find quite reliable. I use the others as more confirmation and as part of clusters.

The Fibonacci Extension is less common but just as powerful when correctly applied. Used as part of a money management strategy and as profit target projection tool, Fibonacci Extensions provide guidance on where price will potentially stall or change direction.

Used in combination, these two ratio sets provide very tradable indicators of opportunity. If you then combine Fibonacci with other indicators like oscillators and moving averages, you can quickly identify high potential risk/reward opportunities. While not perfect, they are one of the best tools available.

Author
Mark Deaton
http://www.fibonaccigenius.com

Fibonacci Clustering- by Mark Deaton

In our previous examples we have seen how both Fibonacci Retracements and Fibonacci Extensions can be powerful tools on their own. Often, I use multiple Fibonacci Retracements to determine entry and exit points. And then also combine Fibonacci Extensions.

Let’s look at an example where using multiple Fibonacci Retracements prove very useful. In Figure 13 we see the dramatic fall of the USDCAD that we looked at from a different perspective in Figures 4, 5 & 6.
Fibonacci clustering

In the figure above I have added two Fibonacci Retracements. Take special note to the two areas highlighted. These areas identify clusters of Fibonacci levels.

The bounce off the bottom blew directly though the first cluster of 23.6% and 38.2%. In subsequent retracements, this level became support and you could have safely used it as a very low risk entry point.

Additionally, the 38.2% and 61.8% cluster became resistance. In two of three cases you could have used this information for low risk short side entry points.

The key to remember in this example: You had all this information immediately after the swing low was established. Therefore knowing these levels this early in the swing allows these levels to be predictive
Now let’s add one more Fibonacci Retracement.

In the figure above I have added a third Fibonacci Retracement.

For the patient trader, the third set Fibonacci Retracement levels provides more confidence that both Point A and Point B are high quality and low risk entry points from the long side.

After practicing this method for a while, you will find it common for you charts to have multiple Fibonacci Retracements. Learning to create and read Fibonacci Retracement clusters is a powerful and valuable tool for your Fibonacci Toolset.

You can also cluster multiple Fibonacci Extensions. In Figure 15 you see this in action.

In this chart you see two different sets of Fibonacci Extensions applied. As you can see there are four, two level groups. Each of these groups represents low risk entry points. Ideally, you would want to initiate the position somewhere between the two levels. Additionally, with this type of setup, you can almost trade from pair to pair.

As you can see by the previous two examples, it would be very easy to draw countless retracements and extensions on virtually any chart. It really depends on the chart and the price action.

In Figure 7 we looked at the Bottoming of the GBPUSD using one basic Fibonacci Retracement. Let’s revisit GBPUSD on a bigger scale and add to our thesis.

In our next chart I have added a larger Fibonacci Retracement that encapsulates the entire top to bottom move and I have added a Fibonacci extension from the high and low swing points within the retracement price action. These additions are shown on our chart below.

Take special notice of the Fibonacci clusters highlighted. Each of these clusters served as either support or resistance points. And each created a tradable opportunity.

Author

Mark Deaton
www.fibonaccigenius.com