There are many tools available to assist veteran and novice traders in trading the financial markets; however, it is the choice of tool and its proper application, in addition to the discipline of the trader that distinguishes the trader as being consistently successful.
Fibonacci price projections are such tools used by professional traders to consistently beat the market with healthy returns on capital. Many novice and intermediate traders wish to utilize such tools but fail to do so either due to lack of knowledge or properly application of such tools.
In this article I will attempt to shed light on the subject and provide you with simple to understand basic information on how to properly calculate and apply the Fibonacci price projections in the same fashion as professionals do.
Basic Determination:
First, It is important to understand that there are two types of Fibonacci price projections and those are Internal projections and External projections.
Internal projections encompass Fibonacci retracement. Fibonacci retracement occurs when price retraces a previous trend by a certain ratio of the range of that trend. The most observed ratios are 23.6%, 38.2%, 50%, 61.8%, and 78.6%. Because the price retraces (i.e. moves in the opposite direction of the) main trend, it is categorized as internal, or in other words, the price moves into the previous trends range. As price retraces into the range of the original trend, it is expect to stop at one of the levels mentioned above before reversing and continuing in the original direction of the main trend. Fibonacci retracements make excellent stop-loss levels.
External projections include Fibonacci extensions, expansions, and alternates/parallels. I shall breakdown each one of these studies separately below in a moment; however, it is important to point out commonality between the three studies for easier explanation.
All three studies have one thing in common and that is they enable the practitioner/trader to predict future price reversal levels outside of the previous trends range; therefore, external Fibonacci price projections are ideal for setting profit-targets. Furthermore, all three studies apply to trend continuation of a previous trend after a retracement has taken place.
The only difference between the three studies is how they are calculated and the Fibonacci ratios used in each one.
Fibonacci extensions are calculated based on the range of the previous trend after a retracement had occurred. The range of the previous trend is determined and then certain Fibonacci ratios are applied. The most observed ratios are 100%, 138.2%, 161.8%, and 200%. The resultant values are then added (or subtracted depending on the orientation of the trend) to the most extreme point previous to the retracement to determine the future price levels.
Fibonacci expansions are calculated based on the range of the retracement move that occurred after the trend. That range is determined by subtracting the two extreme points or swings that flank the price move then certain Fibonacci ratios are applied to it. The most observed ratios are 100%, 138.2%, 161.8%, 200%, and 261.8%. The resultant values are then added (or subtracted depending on the orientation of the trend) to the most extreme point previous to the most extreme pivot prior to the retracement taking place to determine the future price levels.
Fibonacci alternates, or also known as parallels, are calculated based on the range of the previous trend that occurred prior to a retracement. The range of the previous trend is determined and then certain Fibonacci ratios are applied. The most observed ratios are 138.2%, 161.8%, and 200%. The resultant values are then added (or subtracted, depending on orientation of trend) to the pivot marking the reversal of the retracement and the resumption of the original trend.
Application:
Naturally, by calculating Fibonacci projections in the fashion outlined above, the trader would have produced several price levels, all of which are of high probability to act as future price reversal areas. But, the power of this tool does not end there.
The trader can make this tool even more powerful by using the synergy among the various Fibonacci projections.
To do so, the trader would need to calculate all four Fibonacci price projections on two or three degrees of market swings. A degree means one level higher, or one time-frame higher from the degree or time-frame being observed. Therefore, 2-3 degrees higher market swings means, 2-3 higher time-frames. This is important in order to capture the various trends available in the market (long, intermediate, and short).
Once all Fibonacci price projections are determined, the trader needs to look for areas where different projected price levels cluster. This will be evident in the way the price levels overlap in a very small price range. These clusters, or confluence, of price projections act as very high probable reversal market points; more so than that each level by itself.
Naturally, this method creates multiple support and resistance levels that the trader can anticipate price reversal at and capitalize on this information to make trade decisions. Furthermore, knowing this information enables the practitioner to anticipate market reversal points in advance thus entering the market at an ideal entry price.
I hope this article is of benefit to you.
To your success.
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