By Carl Woodhouse
Fibonacci internal retracements are a popular technical analysis tool used on the charts of financial markets by traders to identify support and resistance areas where potential trend reversals can take place.
Fibonacci Retracements are ratios which are derived from the Fibonacci sequence, which are used by traders to identify high probability reversal levels within the financial markets. The most common ratios used by traders to identify potential reversal levels are:
The general idea is when the price of a stock or currency makes a correction or pullback against a dominant trend, Fibonacci ratios are applied to the market to forecast the extent or end of the correction/pullback.
In an uptrend, a trader will look to go long or buy the market once the correction or counter directional price move has hit Fibonacci support level.
In a downtrend, a trader will look to go short or sell the market once the correction or counter directional price move has hit a Fibonacci resistance level.
Fibonacci price retracements can be applied to any market and any timeframe. This is done by
Identifying and clicking on a significant swing low and dragging the cursor up to the most recently identified potential swing High.
Identifying and clicking on a significant swing high and dragging the cursor down the most recently identified potential swing low
A swing high is typically identified by a recent high, with two lower highs on the left and right of the high bar.
A swing low is typified by a recent low with at least two higher lows on either side of the low bar.
In most charting software packages, this will display each of the commonly used Fibonacci ratios to the market and their corresponding price levels
Fibonacci Retracement in an uptrend:
Here we plotted the Fibonacci Retracement Levels on an uptrend in British Land by clicking on the Swing Low made on the 16th Oct 2014 @ 680 and dragging the cursor to the Swing High made on the 02nd Dec 2014 @777. The charting software automatically plots the Fibonacci ratios and their corresponding levels.
If the market begins to correct or pullback from this high there is a very high probability that the market will find support at one of these Fibonacci levels.
Example 1.1: British Land
Now let’s look at what actually happened after the Swing High occurred. The market pulled back right through the 0.236 retracement level and continued the next day through the 0.382 level before finding support.
After two days, the market resumed its upward move. Clearly buying at the 0.382 level would have resulted in a successful trade.
Example 2: FTSE 100
In our next example where looking at a chart of the FTSE 100 and again, the Fibonacci Retracement Levels are plotted on the chart in the same manner as described in Example 1. We identified a swing low made on the 16th Oct 2014 @ 6195.9 and we dragged the cursor up to the most recent potential swing high 21st Nov 6750.8
Again, we are looking for the market to retrace from the Swing High and find support at one of the Fibonacci internal retracement levels.
Example 2: FTSE 100 Cont..
Example 2.1 FTSE 100
Now let’s look at what actually happened. The market pulled back right through the entire range of the retracement levels and finally finds support @6152.5 the extreme 0.886 Fibonacci ratio. The FTSE then makes around a 455 point bounce up to 6607. Sellers then enter the market and push the FTSE back down approximately 260 points to 6340, the level of the 0.618 internal retracement. The market again finds significant support at this Fibonacci level, and begins to resume the upward trend.
Fibonacci Retracement in a downtrend
In this next example, we plotted the Fibonacci Retracement Levels on a downtrend in Centrica by clicking on the Swing high made on the 9th Sep 2014 @ 323.80 and dragging the cursor to the Swing Low made on the 15th Jan 2015 @265.20. Again the charting software automatically plots the Fibonacci ratios and their corresponding levels.
If the market begins to correct or pullback from this potential swing low, there is a very high probability that the markets price will find resistance at one of these significant levels.
Example: 3.1 Centrica
Now let’s look at what actually happened. The market pulls back from the swing low by 296 points and finds resistance @300.99, the 0.618 internal retracement. Price then turns aggressively at this Fibonacci level and resumes the downward.
Example 4: Caterpillar
In our next example where looking at a chart of the U.S stock Caterpillar Inc, the Fibonacci Retracement Levels are plotted on the chart in the same manner as described in Example 3. We identified a swing high made on the 16th July 2014 @ 111.4 and we dragged the cursor down to the most recent potential swing low on the 15TH Oct @ 92.59
Again, we are looking for the price of the market to retrace from the Swing low and find resistance at one of the Fibonacci internal retracements.
Example: 4.1 Caterpillar
Now let’s look at what actually happened. The market pulls back from the swing low by 196 points. Notice how during the pullback price gaps up, and finds initial resistance @ 99.193 the 0.382 Fibonacci ratio. The market then continues to push upwards until the 0.500 internal retracement level@ 101.535, where sellers/supply returns to the market and temporarily pushes prices down.
Again the market begins to move upwards, and is quickly followed by another gap up, notice again how the gap up in price action is halted at @107.212 the 0.786 Fibonacci retracement level.
At the 0.786 internal retracement, a significant amount of supply or selling pressure enters the market, forcing prices down and resuming the dominant down trend.
Fibonacci retracements are a powerful tool that can help you find high probability areas on any market and any timeframe where future market reversals and trend continuations are highly likely to take place. It is a fact that many significant support and resistance levels in the majority of financial markets and traded timeframes are made at Fibonacci Internal retracement ratios. It is important for all traders to watch price action around these levels and have a plan in place to take a trade once the market has shown signs of a reversal.
It is important to note that trading Fibonacci retracement levels should never be used as a standalone system to enter trades, but should be part of a complete trading plan. Fibonacci retracements should be combined with objective trade entry, trade exit and trade management strategies along with the pattern, price and time analysis before the true power of these ratios are revealed.
WANT TO LEARN NOW
If you’re looking for the ultimate cutting edge education in Fibonacci and harmonic pattern trading, then our Fibonacci Master course will blow your mind. Our course includes 28 hours of video instruction, with bar-by-bar chart examples and clear visual explanations of every key point and aspect of our trading methodology.
By the time you finish our course, you will have a clear and unique edge over other traders in the marketplace, let us repeat that – you will have a clear and unique edge over other traders, and be able to confidently make money trading any market on any time frame, from anywhere in the world. What is that worth to you?
Find more great content check out below articles