Fibonacci retracement levels are the favorite technical analysis tool of swing and scalping traders. They are based on a harmonic mathematical sequence with the golden ratio. The Fibonacci retracement tool can track potential price reversal points during a correction and confirm a trend reversal. In this review, you will learn how the Fibonacci retracement levels are built and how to use the Fibonacci tool to make money on financial markets.
The article covers the following subjects:
How to use Fibonacci retracement
Support and resistance levels on a price chart are one of the most common auxiliary technical analysis tools. The breakout of key levels confirms a strong trend; a rebound may mean a correction and continuation of the main trend. Levels are the point where an asset’s price reversal is more likely to occur than elsewhere on the chart. Those price levels are used to set stop orders or pending orders and determine the profit target on an upward move.
The trend line movement of the Fibonacci retracement levels is a long-term price directional upward or downward movement accompanied by temporary small corrections.
It was noticed that the depth of these corrections and the distance between local corrective extremes are mathematically consistent. For example, during a downward movement, the asset’s price going up within corrections often ends at certain resistance levels rejecting an upward move. These levels, on which a trend reversal towards its main direction is possible, were called Fibonacci retracement levels.
Fibonacci retracement levels are horizontal support and resistance levels located at a fixed distance, which is calculated using a coefficient. They are simply percentages of the magnitude of the price movement and are plotted on the trend during the correction.
Key level values:
- 0%. End point. The extreme value of the price. The grid is stretched from the beginning of the trend to its end. Therefore, for an upward chart, 0% will be at its high, for a downtrend – at its low.
- 23.6%. Relatively weak level. If a correction has begun, most often it breaks through it.
- 38.2%. One of the key correction levels. If the main price pulls strong, the correction will end here with the highest probability.
- 50%. Intermediate level. It’s not included in the Fibonacci sequence. According to the theory, the price tends to retrace 1/3 to 1/2 the length of the previous trend before continuing the main movement. When it’s passed by the price, this is a signal that the correction is turning into the main direction of price movement.
- 61.8%. One of the key levels. If the price breaks through it, it can go further.
- 76.4%. Relatively weak level. It can act as the first correction line for a new trend.
- 100%. Starting point. Extreme price value, from which the grid stretches to 0%. This is the beginning, or the low, for an upward movement. For a downward trend, this is its high.
Any trend during a rollback is more likely to continue than reverse. And the Fibonacci tool percentages show the likelihood of continuation of the reversal correction. The larger they are, the more likely it is that the trend will not continue, and the correction is a new trend direction of the price.
How to add the indicator to the chart. In the chart, the Fibonacci retracement levels indicator is a grid with a range from 0 to 100% with intermediate horizontal levels built on the basis of the golden ratio – the number 1.618. More precisely, its inverse coefficients. While in the series 21, 34, 55 the Fibonacci golden ratio is equal to 34/21 ≈ 55/34 ≈ 1.618, the coefficients are calculated in reverse: 21/34 ≈ 34/55 ≈ 0.618.
This is how you add the indicator using charting software:
1. On the LiteFinance website, in the top menu, select the tab “For Beginners / Open Demo Account”. You don’t need to register to get acquainted with the indicator – you will immediately get into the trading terminal.
2. Click on the “Trade” button and select a trading instrument.
3. Select “Fibonacci Channels” in the column of graphic instruments on the left side of the charting software window.
A list will appear with the available Fibonacci extensions:
Channels. Two parallel lines showing the boundaries of the channel with additional parallel lines inside it. The distance between the lines is calculated using the Fibonacci tool ratio.
Retracement levels. Classic horizontal levels are applied to the trend movement to determine the end of a local correction.
- Trend-based extension. This Fibonacci retracement tool is an extended version of the correction levels. It has additional levels that go beyond the key point 100% — 168.1%, 200%, 261.8%.
There are no settings. For example, select “Fibonacci retracement”, click on the chart where the Fibonacci retracement levels start and stretch the grid. If you pull the grid to the lower left or right corners, “0” will be at the bottom, and “100%” — at the top. Vice versa, if you drag the grid to the upper left or right corners, then “0” will be at the top, and “100” — at the bottom.
This is how the Fibonacci Retracement level looks without being tied to the price chart if the grid is stretched in different directions. Here you can see the border ranges from 0 to 1 with the price corresponding to each level in brackets. Absolute values are used instead of percentages. For example, 0.5 corresponds to the median level of 50%. For convenience, each sector between the levels is painted in its own color.
We will be getting ahead, but this is important. There are Fibonacci numbers 13, 21, 34, 55, etc. There is a scale of the Fibonacci Retracement indicator from 0 to 100. The level 0.236 is calculated as 13/55, “0.382” – as 13/34. “0.618” – as 13/21. Level 50 is the median. Where did the 0.786 level come from?
Answer: this is another auxiliary level equal to the square root of the previous level. It is called “the last resort”. This is where the dreams of many traders whose trading decisions were based on a potential price correction and reversal are shattered. By the way, there is no such level in MT4.
I will tell you more about how to apply a grid to the price chart and how to work with other tools from the list in the following sections.
To remove the shape from the chart, right-click on it and click Remove All Shapes.
What you need to know about Fibonacci retracement levels:
Suitable for trend movement only. It’s useless to build Fibonacci retracement levels during a flat at the moment of consolidation.
Determine where to place pending orders and take profit. Fibonacci retracement levels closest to the opening point of the trade are the take-profit target.
Intermediate lines are local support and resistance levels. The correction is not always perfect and the price may freeze for a while, for example, between the Fibonacci retracement levels of 38.2 and 26.3. The end of the retracement usually occurs between 38.2 and 61.8.
Not a perfect tool. It only gives a hint of where the price may reverse. You should also be guided by the patterns formed by the price, or even combine it with other tools to take more complete trading decisions.
The Fibonacci retracement tool works on all timeframes. And while in long-term Fibonacci retracement levels strategies are used more for preliminary analysis and forecasting, in scalping Fibonacci tool is perhaps the most basic technical analysis mechanism for setting a grid of orders.
Another tip: be careful with the grid during news releases. Fundamental factors increase volatility. The price easily breaks through levels, but what appears to be a trend may turn out to be just a deep correction followed by a rollback.
What is the fibonacci sequence
What are Fibonacci numbers? The Fibonacci sequence is known far beyond trading. This numerical sequence was known even in ancient India and used in metric sciences. Later, in the XII century, the Italian mathematician Leonardo of Pisa better known as Fibonacci formulated its properties.
It is an infinite Fibonacci number series: 0, 1, 1, 2, 3, 5, 8 13, 21, 34, 55 … It has several patterns:
- Each next Fibonacci sequence number is the sum of the previous two. For example, 8 = 5 + 3. Or 34 = 21 + 13.
- The ratio of a member to the previous member tends to 1.618. For example, 55/34 = 1.6176. The number 1.618 is called the Golden Ratio.
- The ratio of the member to the one before the previous member tends to 2.6. For example, 55/21 = 2.619.
The number 1.618 is called the Golden Ratio. It is often found in natural forms that don’t have anything in common directly – in the proportions of human body parts, the distance between leaves on trees, Fibonacci spirals, etc. In the 19th century, the Golden Ratio was called the standard of the harmony of proportions in nature.
The idea of using the Golden Ratio in stock trading was first proposed by Ralph Nelson Elliott in the 1930s. When analyzing the stock indices charts, he noticed that the ratio between their fluctuations is approximately equal to the number 1.618. Later, the results of his research formed the basis for the mathematical apparatus used in technical analysis to plot Fibonacci ratios and their modifications.
Fibonacci sequence formula & calculation
1. The calculation formula is as follows:
For an uptrend:
Price = A + (B – A) * Level, where
Price is the calculated price, A is 0% price (end point of the trend), B is 100% price (start point of the trend), Level is the Fibonacci retracement level.
For a downtrend:
Price = A – (A – B) * Level
In an Excel spreadsheet, this calculation looks like this:
Step 1. Enter the input data – start and end prices depending on the trending direction. These are cells B2 and B3 for the upward trend and C2-C3 for the downward trend.
- In cell B4, enter the formula: =$B$3+($B$2-$B$3)*A4
- In cell C4, enter the formula: =$C$3-($C$3-$C$2)*A4
Stretch the formulas across all levels, and the contents expand table accordingly. The table is ready. You can download the template here.
Example of manual calculation. Take any section of a 5-digit sequence. For example, 13, 21, 34, 55. Let’s calculate the Fibonacci ratios taking the first level (13) as the initial level:
- 13/21 = 0.618;
- 13/34 = 0.382;
- 13/55 = 0.236;
Let’s add an intermediate Fibonacci ratio of 0.5.
Suppose there is an uptrend in the chart of a currency pair – the price has grown from 1.2500 to 1.3850. This is the main trend. Then the price reversed down. We take the mark 1.2500 as 100%, 1.3850 as 0%. Let’s calculate the support levels, from which the price pulls and rebounds towards the main growing trend:
- The first support level is 23.6%: 1.385 + (1.25-1.385) * 0.236 = 1.3531.
- The second support level is 38.2%: 1.385 + (1.25-1.385) * 0.382 = 1.3334 – this is the 38.2% level.
- The third support level is 50%: 1.385 + (1.25-1.385) * 0.5 = 1.33175.
- The fourth support level is 61.8%: 1.385 + (1.25-1.385) * 0.618 = 1.3016.
The retracement levels can not only be calculated manually in spreadsheet editors or built using technical tools. You can use calculators that calculate intermediate levels based on the input of price extremes. I will show you how they work through a couple of examples.
1. Fibonacci retracement levels calculator on LiteFinance website. You can find it here.
Also I’ve added a calculator here. Determine the high and low prices as your support and resistance levels on the current trend of the currency pair. Enter them into the calculator below, indicate the nature of the trend – upward or downward.
The calculator gives you price values for each level and extension in 4-digit quotes.
2. Fibonacci ratios calculator on the Investing analytical portal website.
We have another changeable parameter here – the “Special” window contains Fibonacci retracement levels as well as the support and resistance points. In it, the trader can indicate a pivot point within the range to see a potential widening of the spread.
For example, in a downward movement, the price moves from 1.2000 to 1.1000, pushes up from the 1.1000 support level, reaches 1.1500 and reverses down again. The price values 1.2000 and 1.1000 will be extremes, 1.1500 is a reversal value within the range and is indicated in the “Special” field. It only affects the calculated values in the Extension field.
Fibonacci Retracement and Predicting Prices
How to use Fibonacci retracement levels in technical analysis:
- Identifying potential trend reversal points. The horizontal resistance or support levels coinciding with the Price Action elements and the correction grid give additional confidence that the trend will soon reverse.
- Identifying potential profit targets — trade closing points.
- Identifying local extrema.
How to draw Fibonacci retracements
How to use Fibonacci retracement levels correctly in trading:
Step 1. Identify the trend in the chart. Pay attention to the following:
- If you analyze the already completed trend in order to find the next correction zones, focus on the lowest and highest points.
- If you build the grid on the current trend, find only the point that is the initial extreme. You can follow a moving trend by pulling the grid further.
The trend has its additional peaks and valleys, which can be considered a starting point. I recommend adhering to the following restrictions on the analyzed periods:
- For the M30 timeframe – no more than 10-12 days.
- For the H1 timeframe – no more than 2-3 weeks.
- For the H4 timeframe – no more than 6 months.
- For D1 timeframe – no more than 2 years.
- For the W1 timeframe – up to 6 years.
- For the MN timeframe – up to 12 years.
Step 2. Apply the grid.
- In an upward movement, the starting point will be the first low of the trend start. The end point is the high of its end.
On traders’ forums, you can find options for building a grid from the end of the trend to its beginning. Or plotting for an uptrend from the high at the starting point to the low at the ending point. All these options can be used to select the optimal levels for the current trend.
Example. There is a flat, after which we can see a trend. Stretch the grid from point “1” to point “2”. Pay attention to the price behavior in the sections highlighted with red rectangles in the colored areas. The boundaries of the zones act as local levels of resistance and support in them.
- On a downtrend, the starting point will be the first high of its beginning. The end point is the low of its end.
The uptrend changes to a downtrend. Stretch the grid from the high at point “1” to the low at point “2”. Pay attention to following three factors:
In both cases, in the H1 chart, the grid was built in a section no longer than 3 weeks.
After the second endpoint is locked, you can drag it horizontally to the right. This makes it more convenient to analyze the subsequent price movement within the colored zones of the indicator.
You can build a grid not only in a line chart, but in a candlestick chart as well. The extreme points of the shadows will be the extrema.
Finding Fibonacci Retracement Levels
How to use Fibonacci retracement levels. No trend can be perfectly flat. Pauses occur in a downward or upward move, after which the price pulls back or pushes forward to the level of the previous pause. These rollbacks are called retracements or corrections. The essence of correction-level trading is to wait for the moment of its end and open a trade in the direction of the trend continuation.
After the sideways movement, we apply a grid from the low of the beginning of the trend to its high. The first correction broke through 38.2%, but did not reach 50%. This means that we can’t be talking about the changing direction yet.
As soon as the price crosses the level in the opposite direction, open a long position with take profit at 23.86%. Open a trade during the second correction in a similar way.
Tips for finding corrections and trade entry points:
Open trades when the price has crossed the Fibonacci retracement levels in the renewed movement after the correction. Take your time to enter the Forex market, don’t rush to do it immediately after a reversal.
Set your profit target at the next level. Don’t be greedy and don’t forget that there are still risks involved.
- Be careful on the third consecutive correction. If the trend cannot return to the reversal (zero) level three times, it is considered a risk warning that the direction may change.
Fibonacci sequence trading using correction levels can also be explained from the point of view of psychology.
- You are a trader looking for good entry points on an uptrend. Opening a trade right during the price growth is a high risk. Should you be jumping into the last car of a departing train? After all, a strong movement can end at any moment. Therefore, you are waiting for either the trend to reverse, or a flat, or a correction to occur.
- The trend stops and, after short fluctuations, reverses down. Now the question is, what is this reversal? If it’s a correction, the price will soon reverse up again. If the trend changes, you should consider opening a short position.
- Stretch the Fibonacci ratios grid and wait for the price to hit 38.2%. You know that this is a strong level at which the price often reverses in the direction of the main movement. Many traders think the same way. And when the price reaches the target point, the majority immediately place buy orders. Due to the sharply increasing volumes of buyers, the scale outweighs in favor of the bulls and the price reverses up.
This example shows that Fibonacci retracement levels are used by traders as order consolidation zones, which when placed simultaneously can reverse the price in the desired direction.
Fibonacci retracement strategy
Types of trading strategies based on Fibonacci retracement levels:
1. Trading based on correction levels:
Trend-following trade on rollbacks. Fibo levels are the points of the most probable price reversal at the end of the correction. You can read more about the strategy in the review Swing Trading Strategies.
Trend reversal trading. A breakout of the key 61.8% level may mean a change in the main price movement. A trade should be opened in this direction.
2. Channel trading.
3. Fibonacci Extensions trading.
Let’s take a closer look at each of these strategies with examples.
Fibonacci chart and tools
1. Trend following on rollbacks.
This Forex Fibonacci retracement level strategy involves opening a trade at the end of the correction. How to plot Fibonacci retracement levels correctly in the chart:
Wait for the trend to start.
Wait for the start of the first correction, apply the grid. The starting point is the low for an uptrend and high for an downtrend.
Follow the correction. It should end before the 61.8% level.
Wait for the price reversal and open a trade when the nearest Fibonacci retracement level is crossed or at the moment of a rebound from it in the direction of the main trend.
Close the position when the price reaches the next level. The condition is optional, depending on the acceptable risk level.
A growing trend appears after a flat. As soon as the first correction begins, we apply Fibonacci retracement levels on the chart from the bottom point of the trend to the high and stretch the grid to the right so that 0% coincides with the high. There are no signals to open a trade.
The trend continues to go up from the horizontal lines. During the second correction, we pull the grid to the next high. The first rebound of the correction took place at the 0.236 level of the Fibonacci sequence.
We open a trade with a take profit at the 0 mark and after the trade is closed we pull the grid to the next high.
We open the second trade at the moment of a rebound from the level of 0.382, and set take profit at around 0.236.
We open the third trade when the price crosses the level 0.236. The fourth — again during the rebound from the 0.236 level.
All trades closed in profit, the profitability of each one was 15-20 points.
After each new high, we pull the grid to it and wait for the next correction to reach at least the nearest level. After another pulling of the grid, the correction broke down the 50% level, lingered on it a little and went down. This indicates a high probability of a trend reversal.
Redraw the retracement levels for a downtrend during the nearest upward correction. The starting point is the high. The end point is the nearest low indicated by a red arrow.
At point “1”, open a short position with a stop loss just above the level of 0.382. At point “2”, we close the trade in profit without triggering the stop order. At point “3”, when the price is crossing the line 0.236 down, open the second short position, which is closed at point “4”.
Rules for setting stop orders using the Fibonacci tool. The basic rule is to set a stop loss near the next closest level. If the uptrend correction ends at 38.2%, set the stop loss just below the 50% level so that it will not be knocked out if the correction continues. If the correction has broken through the 61.8% level and is clearly turning into a downtrend, the stop order is placed just above 50%.
The first correction almost touched the level of 61.8%, I open a long position at the moment of crossing 50%, set a stop order just below 61.8%. During the second correction, the price pushes off from the 50% level, I open a long position at 38.2% and set the stop order just below 50%.
You don’t have to strictly follow this rule when using the Fibonacci tool. Some traders believe that 50% is a weak level and stop loss should be placed only at key points. If the stop loss length does not comply with your rules of risk management and you consider it a high risk choice, then do not rely on the grid – place stop orders as you see fit. Or use a trailing stop.
2. Trend reversal trading.
The previous strategies are considered more complex instruments and involve taking profit during the main price movement after a correction within one inter-level range. This approach allows you to open 3-5 or more trades in a single trend and doesn’t hide high risk, but the profit of each of them is no more than 20 points. Independent financial advice is when trading on a trend reversal that involves opening one trade after the trend direction changes and keeping it in the market until a new reversal.
There is a downtrend in the chart, which then turns into an uptrend. The goal is to wait for the end of the uptrend and open a short position on the main downward movement.
We plot the Fibonacci numbers chart on an uptrend and wait for the reverse movement to pass the 0.5 and 0.618 levels. The chart shows that the 0.618 level turned out to be a key level – after its breakout, the price returned to it again, after which it continued its downward movement. A breakdown of the 0.618 mark means confirmation of the downtrend. Open a short position.
The chart shows that the downtrend is long and strong. There are several options for exiting:
- Wait until the price crosses the “0” level, move the stop loss to the breakeven level and secure the position with a trailing stop of at least 20-25 points.
- Hold the trade until the end of the day, thus saving on the swap. Go to the candlestick chart and watch the formation of reversal patterns.
- Build a grid on the downtrend chart and close positions at additional extended levels. For example, in the chart, the first level is 1.618 or 161.8%.
3. Channel trading.
Fibonacci retracement level channels are resistance and support levels built on extremes, but not linked to the horizontal position. If the grid of correction levels is stretched only in the vertical and horizontal planes, the trader is the one who determines the angle of the support and resistance. The values of the Fibonacci retracement levels within the main range are the same as those of the correction levels, but the principle of building the channel is different – it is based on three and not two points.
The principle of plotting Fibonacci retracement level numbers in a chart using a channel differs from platform to platform.
For example, in MT4, you need to set pivot points at two consecutive extrema, double-click on the horizontal lines and fix the second Fibonacci ratios line so that it forms a channel with the first pivot line. The essence of the strategy boils down to opening trades within channel ranges during a rebound.
In LiteFinance terminal it’s slightly different. Here you need to fix the channel at the extremes and stretch the Fibonacci retracement levels along the price movement. If you have any questions, ask in the comments – I’ll tell you more about the retracement levels of the Fibonacci tool.
Trend-Based Fibonacci retracement level extension is based on the Elliott Wave Theory. Elliott suggested that the market is cyclical: any growth is followed by a decline, which turns into growth again. According to its wave pattern, the following movements can be distinguished in the market:
- 5 waves (1-5) in the direction of the main trend, three of which are impulse waves and the other two are corrections.
- 3 waves (А-С) in the opposite direction, two of which are forming a new reversal trend direction and one wave is correctional.
Differences between extension and correction levels of the Fibonacci tool:
Correction levels show the probability and depth of the corrective movement in the range from 0% to 100%, where the two points of 0% and 100% are the extremes of the current trend. Extension levels show points of possible correction in the future outside the 0-100% range.
Correction levels are mainly used in scalping and swing trading strategies and occasionally have the role of support or resistance levels. They are more suitable for intraday strategies with relatively little profit. Extension levels are used in long term strategies. They serve to predict a long-term trend in relation to the current trend highs and do not take into account local corrections.
- Corrective levels are plotted only on one trend wave based on two points from the beginning of the trend to its current high. The extension of Fibonacci retracement levels is plotted based on two points waves – three points coinciding with the beginning of the Elliott waves.
Fibonacci retracement level extension building rules:
- Open the instrument in the LiteFinance chart.
- Wait for the beginning of the trend – the reversal of the dying old movement, which should be confirmed by the oscillator or patterns. Or the moment of exiting a flat. This point will be the first one.
- Wait for the end of the first wave and the beginning of the correction. Correction is the second wave and its beginning is the second point.
- Wait for the end of the correction and the beginning of the third trend wave. This is the third point. Stretch the grid.
The result of building the extension will be a grid with additional levels greater than 100% (level “1”) – 161.8 and 261.8.
The extension grid is used to predict the length of the third Elliott wave. Based on the extrema of the first two waves, it shows the approximate end of the third wave and the beginning of the fourth wave of correction. The correction of the third wave usually occurs at around 161.8. But it can end earlier by transforming into the fifth wave after the next correction.
How to use the Fibonacci extension. Example.
The first and second points are placed at the beginning and end of the first wave of an uptrend. The third point is placed at the end of the correction, the chart is stretched to the right.
The chart shows that there are not five, but seven upward waves. The fourth wave marked a flat between the key levels 0.382 and 0.786, the level 1.618 became the resistance level for the 5th wave. Fibonacci retracement level extension trading is based on opening a trade at the beginning of the third wave with a take profit at 1,618.
The Fibonacci retracement levels show the approximate levels of the end of the Elliott trend waves. The instrument is not perfect and theory can be very different from practice. However, it is quite effective as an additional tool.
How to calculate Fibonacci support and resistance
Correction levels themselves are resistance and support levels in a local trend.
In a strong downtrend, local corrections repeatedly touch Fibo levels and bounce off them. A small consolidation is observed near some levels with testing of the same level several times. There are two trading strategy options: trading within ranges or long-term trading following the entire trend until it reverses.
The grid can be strengthened using classic levels drawn by extreme values at a small scale. The intersection or partial coincidence with the grid will show the key points of the potential reversal.
Fibonacci stock market predictions
The Fibonacci retracements are applicable to any financial markets, including stock markets. The difference is in the nature of price behavior:
- The stock market is characterized by rapid trend movements and small corrections up to 38.2%. It is better to use the Fibonacci extension here – it will help determine the target profit levels in a strong trend.
- The foreign exchange market is characterized by relatively short trends and deep rollbacks to the level 50% -61.8%. Here Fibonacci retracement levels and swing trading are more suitable – opening trades at the end of a deep retracement.
This is an hourly Facebook stock chart. The chart shows three high price spikes with small rollbacks. According to Elliott’s theory, these are three wave price movements. Fibonacci levels plotted on the first high showed the potential support level, from which the correction pushed off twice.
The grid plotted based on the second high shows a deeper correction. Again, a strong level is the line 0.236, near which the price lingered twice. The next strong level is 0.382. When breaking through it, the price reversed in the main direction. Open a trade at the moment the price breaks the level 0.382 from the bottom up.
The grid stretched based on the third high shows how Fibonacci levels can be used as resistance and support levels that define the boundaries of local price channels.
Fibonacci trading example
I will show you how to use Fibonacci horizontal lines on the Forex market correctly. The original strategy is called Scalping on Gold. Input data: initial investment is the asset – XAU/USD, timeframe – M5. I will open trades at the end of local corrections at key levels and close them at the nearest levels in the direction of the trend.
Step 1. Analyzing the chart.
The screen shows 3 waves of the main movement – uptrend, downtrend and uptrend again. At the beginning of the last uptrend, I decided to apply Fibonacci retracement levels based on the last high. The screenshot shows that the price moves within the ranges, pushing off from them in one direction or another.
The current trend breaks the 0.5 level. I’m waiting for a reversal at the key level 0.618, where I will open a long position. If the price moves further to the level of 0.786, it means that the trend is gradually turning into a downward movement and the grid will need to be rebuilt from high to low.
Step 2. Opening the first trade.
As I expected, the correction ended at the key level 0.618. I opened a position at the price reversal upwards. The target profit level is either the 0.5 or 0.382 level. I will try and squeeze as much as I can out of the trend.
Step 3. Closing the first trade.
The 0.5 mark is broken easily in a few minutes, but the price stops just a little short of the 0.382 level. Since the main principle of the strategy is scalping, I close the trade at the first hint of a downward price reversal.
Step 4. Opening the second trade.
The price goes down to the “last line of defense” – 0.786. If it breaks through it, it means that a downtrend has appeared. But the bears lack the strength and the price goes up again towards the main direction. I open a long position with the target of 0.618 or 0.5.
Step 5. Closing the second trade.
The price hovered at 0.786 for some time, after which it returned to 0.618. I close the position at the moment of the touch and downward reversal. If the price has already touched 0.786 and failed to rise above 0.618, the trend direction will most likely change. It makes no sense to open trades on a grid based on an upward trend.
Step 6. Summing up.
The first trade brought in $5.50 in 6 minutes. The second trade – $4.50 in 29 minutes. Both trades closed in profit.
Meanwhile, the price broke through the 0.786 mark, confirming the version that the correction has turned into a downtrend.
Conclusion. Fibo levels work, which I just demonstrated. You just need to learn how to set the grid correctly and feel how the market trends. You can only develop these skills by doing it.
MA Channels FIBO indicator for MT4
MA Channels FIBO is one of the most popular technical indicators, that is combining Fibonacci levels and SMA. It builds a channel of eight moving averages and four MAs on both sides of the price levels. The distance between them is equal to the Fibonacci ratios: 23.5, 38.2, 50.0, 61.8. We open a position upon a rebound from the extreme boundaries of the channel. We close by trailing stop with an analysis of potential reversal points, which are the internal lines of the channel.
This is how it looks:
This screenshot clearly shows the behavior of prices within the channels and the frequency of the signals. In many cases, the price moves between the boundaries of the internal channels – such situations are highlighted by blue rectangles in the screenshot. We also see that after going beyond the extreme boundaries of the channel, the price returns almost immediately.
The disadvantage of the Fibonacci retracements is that the breakdown of the 61.8 boundaries is rare. But you can build a separate strategy on the price movement between the borders of internal channels.
1. Trading conditions and peculiarities of using MA Channels FIBO
- Timeframe — M30 or H1.
- Currency pair — GBPUSD. However, the strategy also works quite well for other liquid pairs.
You can download the MA Channels Fibonacci retracements template for MT4 here. To add it to MT4, click “File / Open Data Folder” in the main menu. In the folder that opens, go to the “MQL4 / Indicators” folder and copy the indicator there. Restart the platform. The Fibonacci retracements indicator will appear in the “Insert / Indicators / Custom” list.
Fibonacci retracements Indicator Settings:
Conditions for opening a long position:
- A position is opened when the price touches the lower level 61.8 (the lower boundary of the external channel).
Stop Loss — 30 points. The target profit level is 30 points, after which you can close 50% of the position, move the stop loss to the breakeven level (position opening point) and set the trailing stop trading decision at the same level with a step of 30 points (right-click on the order and select trailing stop).
You still need stop loss with a trailing stop in case of connection problems – the broker will not see the trailing stop, but the position will be insured by stop loss.
There is another option — rent a VPS server to ensure uninterrupted trading.
Please note that these figures are for 4-digit quotes!
Conditions for opening a short position:
- A position is opened when the price touches the upper level 61.8 (the upper boundary of the external channel).
The conditions for opening/closing are similar.
Tip. Fibonacci indicator levels are shown in the chart at the end of the current trend. But it’s much easier to appoint its own color for each level. For example, in this strategy, the extreme Fibonacci levels 61.8 are red.
Peculiarities of using a strategy with MA Channels FIBO:
- Stop loss is deliberately short. It will be triggered quite often, but the return of the price from the extreme boundaries of the channel to its middle pays for the loss.
- If after exiting the level 61.8, stop loss was triggered, opening a trade on the next candle after a trend reversal towards the channel center.
- The price touching the borders of the channel means not only the body of the candle closing outside it, but also the shadow touching it.
2. Practical examples
The candle indicated by the arrow is a signal candle. It closes below the border of 61.8 (red moving average). We enter on the next candle. Despite the fact that the price goes down (the next candle after the signal candle), it does not trigger stop loss (the Data Window shows the parameters of this candle: the difference between the open price and the end of the shadow is 1.2291-1.2266 = 25 points).
- Important! Any strategy involves combining different technical analysis approaches. In this case, the candle indicated by the blue arrow is a classic pin-bar pattern, a reversal candle formation confirming a potential reversal. And if the shadow of this candle turned out to be more than 30 points long (and the position would close by stop loss), we would open another position at this level in accordance with Peculiarity No. 2, and all losses would be fully compensated.
The previous signal indicated by the green arrow was also effective.
This is an example of Peculiarity No. 2. A long growing candle breaks through the upper level 61.8. At the next reversal candle shown by the arrow, we open a short position in accordance with the conditions of the strategy. Unfortunately, its shadow (1.2643-1.2612 = 31) touches the stop loss. But this is okay. Here you can also see the formation of a pin bar, after which a long downtrend begins.
This is an example of a false signal. A falling white candle is touching the price. We would open a long position on the next growing candle, but the price rebounds from the level and goes down again, closing the position by stop loss.
The next position would have to be opened only on the next rising candle (after the price reversal), however, it is not the beginning of a confident growing trend. Situations like this happen sometimes — they are difficult to foresee and therefore provided for in this high risk management.
The Forex Fibonacci strategy with the MA Channels Fibonacci retracements indicator is interesting because here you can build a separate tactic on the price movement between the borders of the channels. The price can bounce off the key Fibonacci price level, which will be a signal to enter the market. On the other hand, a breakdown of the level will mean that the price will go to the next level.
Examples of such bounces are shown in this screen by blue rectangles. If, after touching / breaking the level, an opposite candle appeared, the direction of the trend changed. If the candle did not change, the trend moved on to the next level.
A strategy like this carries high risks, since this pattern is not always visible. But if you add auxiliary indicators or Price Action elements to the strategy, then why not? Let’s discuss the feasibility of building such a strategy in the comments!
Pros and Cons of using Fibonacci in trading
I will formulate them as a table.
Pivot point determining accuracy
Difficulty of determining the starting point
Accurate display of market psychology
Cannot be used in Expert Advisors
- Pivot point determining accuracy. With the correct setting, they can quite accurately determine the moments of price reversals at early levels or confirm a change in the trend direction at later levels.
- Versatility. The tool can be used on assets of any markets and any timeframe. But there is a caveat: the higher the timeframe, the more accurate the signals. Although Fibonacci is a favorite tool of scalpers working on M1 and M5, the price noise causes errors.
- Accurate display of market psychology. Most of the technical indicators are based on a formula that reflects the patterns of previous periods. Fibonacci levels are built on both a mathematical algorithm and the psychology of the majority — this can be taken into account when building a Fibonacci trading system.
- Difficulty of determining the starting point. A trend is never perfectly flat. Even at the moment of exiting the flat, it is sometimes difficult to determine the starting point.
- False signals. They happen in this tool and there are quite many of them. And these signals are not so much false as inaccurate. The price can turn around without reaching the level or after breaking it and turn around in the middle of the zone.
- Cannot be used in Expert Advisors. It is impossible to write an automatic grid building algorithm into the EA code. Therefore, the tool cannot be used in algorithmic strategies.
The Fibonacci grid is an auxiliary tool that divides the chart into several zones. These zones more or less reflect the likelihood of a correction reversal or its continuation as a new trend direction. For example, the greatest probability of a correction reversal is in the 23.6% -38.2% zone. But this is not an axiom. Use additional trend indicators, oscillators and mind the patterns.
Fibonacci retracement FAQ
Fibonacci trading summary
1. Use the Fibonacci retracement levels as follows:
- Find a fading trend or a flat. Wait for the beginning of the trend reversal or its exit from the flat.
- Wait for the first correction, apply the Fibonacci grid. Pull it up as new extremes appear.
- To enter the market, wait for a rollback to the levels of 23.6%, 38.2%, or 50%. If the price goes to the 61.8% level, wait – perhaps this is the beginning of a new trend.
2. Use the Fibonacci tool extension to determine your take profit targets. But before that, study Elliott Wave Theory.
3. Apply the grid only to trending strategies and only as an additional confirmation tool.
4. Use the following rules for opening a trade:
- Aggressive strategy: entering the market at the moment of touching the correction, placing pending orders in different directions on both sides of the key levels 38.2% and 61.8%.
- Conservative strategy: the preliminary signal is a breakout by the correction of the Fibonacci retracement level. The main signal: the end of the correction, the price reversal in the direction of the main direction, a repeated breakout of the same level in the opposite direction.
- Conservative strategy for a new trend: opening a position in the new price direction after a breakout of the 61.8% level.
5. Use the following rules for exiting:
- Aggressive strategy: close 50% of the trade upon reaching the beginning of the correction (0% level), secure 50% of the trade with a trailing stop of length equal to the distance between the 0% and 23.6% level in points.
- Aggressive strategy: set take profit based on the extension levels.
- Conservative strategy: close a trade when the price reaches the opposite level. For example, if a trade is opened at 38.2%, it should be closed at 23.6%.
6. Use the following rules for setting stop loss:
- Set a stop loss at 1-3 points behind the level opposite from the trade opening point (the nearest local extremum).
Don’t be afraid to experiment. There is no independent financial advice that follows standard rules for using a particular tool correctly. This review is just a theoretical basis intended to introduce you to the concept of Fibonacci retracement levels and the options for their application. Only by applying it in practice and closing positions in profit, you will be able to understand the principles of working with the Fibonacci tool.
For those who want to get even deeper into using the Fibonacci numbers in technical analysis tools and the Elliott Wave Theory, I recommend these best Fibonacci trading books that explain the retracement levels:
- Robert Fischer Fibonacci Sequence: Applications and Strategies for Traders.
- Carolyn Boroden Fibonacci Trading: How to Master the Time and Price Advantage.
Try your hand in trading Fibonacci retracement levels – open the LiteFinance cabinet here. No registration is required! If you have any questions, ask them in the comments.
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