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The Fascination With Fibonacci – Trader’s Advantage
Fibonacci, not so much the man as the math, is quite fascinating on its own outside of trading.
Seeing how each number in the Fibonacci sequence relates to each other in a definite ratio (i.e. ..618, 1.382, etc.) and then connecting those ratios to objects in nature is absolutely fascinating. Within minutes of starting to learn the Fibonacci numbers, you are drawn into a world of plant proportions and the architecture of pyramids and other monuments.
The connection of Fibonacci numbers and all things in nature is also found in the trading world itself.
When I started trading the markets in the mid-80s, my goal was similar to that of many new traders. The analysis of the choice was fundamental. Hear the news, recommendations from friends and talking heads, or watch the supply and demand numbers. But something wonderful happened in the early 1990s. I discovered (by myself) Fibonacci and its basic application to price and time analysis. From then on, I focused on technical analysis and never again listened to another talking head (or friend) about what to buy or sell.
The applications of Fibonacci to trading are numerous. Most traders who use technical analysis are familiar with the basic use of Fibonacci in chart analysis. Here are some basic examples:
Resolution of support or resistance – Once prices have moved for a certain number of days/weeks/months in a certain direction, either from a significant low to a high or from a significant high to a low, this is called a “range”. The trader identifies the range and then multiplies this range by the Fibonacci ratios of 0.382 and 618 for example. The results are subtracted from the higher price (if the range is low to high) or added to the lower price (if the range is high to low) to obtain support or resistance price levels respectively . Often, additional ratios are included in this calculation.
Solving time – A basic but fascinating approach to using Fibonacci is to count the days/weeks/months between previous highs and lows in the market and multiply the number by the Fibonacci ratios. The result is counted from the last high or low forward in time when another high or low is then likely to occur.
Starting from the basics of Fibonacci and chart analysis, there are more advanced (or mostly unknown) applications for ratios.
There is the use of Fibonacci spirals, for example, which produce both time and price results.
There is the combined use of Fibonacci ratios with time/price quadrature results.
There are many techniques and methods that one can use to exploit the markets using Fibonacci!
In my charting software, I often use what are called Fibonacci fan lines. The application here is much like that mentioned above under “Resolving Support or Resistance”, the main difference being that fan lines produce DYNAMIC support and resistance levels (values change for each time frame on the graph, higher for ascending lines and lower for descending lines). They also require locating patterns in two ranges (top to bottom to top or bottom to top to bottom). You simply label the end of the range as A, B, and C. For example, the top-to-bottom and top-to-bottom ranges would be labeled “A” for the first high, “B” for the next low, and “C ” for the last vertex. The range from “B to C” is divided by the Fibonacci ratios, then lines are drawn from “A” through the divisions of the range from “B to C” into the future. These become your support/resistance levels.
Another fascinating approach to using Fibonacci for chart analysis is to simply add the Fibonacci serial numbers to any significant high or low to get possible future highs and lows.
For example, the series starting at 3 would be 3, 5, 8, 13, 21, 34, 55, etc. Add two consecutive numbers in the series to get the next number in the series. Now locate a high or low on your price chart and count from there 3 bars, 5 bars, 8 bars, etc. These are periods of time to watch for possible ups and downs in the market.
These are just a few of the many examples and applications you can do with Fibonacci and your chart analysis. Try them yourself and I’m sure you’ll be fascinated by Fibonacci too!
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