Fibonacci Trading Fibonacci is a huge subject and there are many different Fibonacci studies with weird-sounding names but we’re going to stick to two: retracement and extension. A Fibonacci sequence is formed by taking 2 numbers, any 2 numbers, and adding them together to form a third number. Fibonacci retracement levels work on the theory that after a big price moves in one direction, the price will retrace or return partway back to a previous price level before resuming in the original direction.
Traders use the Fibonacci retracement levels as potential support and resistance areas. Since so many traders watch these same levels and place buy and sell orders on them to enter trades or place stops, the support and resistance levels tend to become a self-fulfilling prophecy.
Fibonacci retracement levels are horizontal lines that indicate the possible support and resistance levels where the price could potentially reverse direction. The first thing you should know about the Fibonacci tool is that it works best when the market is trending. The idea is to go long (or buy) on a retracement at a Fibonacci support level when the market is trending UP. And to go short (or sell) on a retracement at a Fibonacci resistance level when the market is trending DOWN.
Fibonacci retracement levels are considered a predictive technical indicator since they attempt to identify where prices may be in the future. The theory is that after the price begins a new trend direction, the price will retrace or return partway back to a previous price level before resuming in the direction of its trend. One thing you should take note of is that prices won’t always bounce from these levels.
They should be looked at as areas of interest, while the Fibonacci retracement tool is extremely useful, it shouldn’t be used all by its lonesome self. One of the best ways to use the Fibonacci retracement tool is to spot potential support and resistance levels and see if they line up with Fibonacci retracement levels. If Fibonacci levels are already support and resistance levels, and you combine them with other price areas that a lot of other traders are watching, then the chances of price bouncing from those areas are much higher. With traders looking at the same support and resistance levels, there’s a good chance that there are a ton of orders at those price levels.
While there’s no guarantee that the price will bounce from those levels, at least you can be more confident about your trade. After all, there is strength in numbers! Remember that trading is all about probabilities. If you stick to those higher probability trades, then there’s a better chance of coming out ahead in the long run.
Traders use the Fibonacci extension levels as potential support and resistance areas to set profit targets. Again, since so many forex traders are watching these levels and placing buy and sell orders to take profits, these levels can often become the end of the trend move due to self-fulfilling expectations. To apply Fibonacci levels to your charts, you’ll need to identify Swing High and Swing Low points.
A Swing High is a candlestick with at least two lower highs on both the left and right of itself. A Swing Low is a candlestick with at least two higher lows on both the left and right of itself. When using Fibonacci tools, the probability of forex trading success could increase when used with other support and resistance levels, trend lines, and candlestick patterns for spotting entry and stop loss points.