Tag: Fibonacci Retracements

Categories
Forex Daily Topic Forex Fibonacci Forex Price-Action Strategies

Generating Trading Signals Using Fibonacci Tools

Introduction

Introduction

Introduction

In our previous educational article, we reviewed how the identification of double top and double bottom formations could provide a trading setup, which, according to its technical configuration, returns a risk to reward ratio equivalent to 1:1.

In this educational article, we’ll review the use of Fibonacci retracements and extensions to generate trading signals.

Trading the Market Corrections

Trading based on corrective movements has its origin in the idea that when the price action makes an impulsive move, the market develops a corrective movement before continuing to develop a new motive move.

This method’s risk derives from the possibility of false breakouts, which, depending on the primary trend, could be a “bearish trap” or “bullish trap.”

Considering that there is a broad range of Fibonacci ratios, Fischer & Fischer propose filtering the trading volume using the 61.8% level as a conservative level. The use of 61.8% provides the technical trader the possibility to invest risking a reduced part of its capital.

As a second entry filter criteria, traders could use the swing size average of the asset under analysis. Considering that every financial asset holds a different personality and volatility, this filter demands the technical trader to develop statistical backtesting to understand the asset’s inherent volatility under study.

Trade Setup

Entry Setup: Considering that the entry rule requires a unique Fibonacci level, the entry will occur once the price touches and closes above (or below) the level 61.8%. This criterion could help shield the technical investor against a potential false breakout.

Stop-Loss: The trade invalidation level will be set above/below the last peak/valley preceding the entry-level. The benefit of trading using the 61.8% level as the point of market entry is the reduced risk compared with other typical Fibonacci levels, such as 38.2% or 50%.

Trailing Stop as Profit Protector: This method by itself doesn’t make the use of a profit target level. As an alternative, the use of a trailing stop could help protect profits with a trailing criterion of the last peak or valley. The disadvantage of this method is that, constrained by the volatility observed in the real market, it is unlikely that the resulting risk to reward ratio goes beyond a mere 1:1.

Trading the Market Progress

As the Elliott Wave Theory states, the price tends to advance in three or five waves. This method uses Fibonacci extensions to define target levels.

In general, when the price action develops a price movement on strong momentum and, then, its correction doesn’t violate the starting level of the initial move, it means the market is not building a bullish or bearish trap; thus, it is likely the action will continue progressing in the direction of the first move.

Entry Rule:  In the same way as in the case of a price correction setup, the entry should be set when the price retraces and closes, starting a new impulsive move. This condition doesn’t require that the price retraces to the 61.8% level of the initial movement.

Stop-Loss: The invalidation level of the trade setup should be located below the last peak or valley preceding the entry-level.

Profit Target (Three Movements Case): When the price evolves following a three-move sequence, the profit target should be set at 161.8% of the projection of the first sequence, as illustrated in the next figure.

Profit Target (Five Movements Case): This scenario considers two options. The first one is when the progress happens in the third segment and the second one when the price action has completed the third move and could be initiating its fifth movement. These scenarios are illustrated in the following figure.

Conclusions

In this educational article, we reviewed two cases in which to use as Fibonacci retracements as the extensions tool. Both methods presented in this article offer specific risks. The use of the corrections method provides a reduced risk to the technical trader, due to the trailing stop use criterion, this doesn’t mean that it could deliver a risk to reward ratio of over 1:1.

On the other hand, the use of the Fibonacci extensions, according to Fischer & Fischer, always means to invest against the trend. However, a combination of both methods could provide an opportunity to enter in favor of the market direction.

To reduce the noise and risk in the investment process, the technical trader must evaluate the performance strategy developing statistical backtesting with historical data before risking real money.

Suggested Readings

  • Fischer, R., Fischer J.; Candlesticks, Fibonacci, and Chart Patterns Trading Tools; John Wiley & Sons; 1st Edition (2003).

 

Categories
Forex Course

138. How to Identify Potential Market Reversals?

Introduction

Introduction

Introduction

In the previous lesson, we discussed the concept of retracement and reversal. We also understood how they are different from each other. However, just knowing if the terminology will not help in the forex market. Being able to predict if the price is retracing or reversing is the name of the game because this will significantly bring down your losing trades and increase the number of winning trades.

Retracement or Reversal?

In technical analysis, there are several ways to predict if the market is undergoing a retracement or a reversal. Here are some of the ways to differentiate between the two.

Fibonacci Retracement

Fibonacci retracements are very popular in technical analysis space. They are based on a sequence of key numbers identified by Leonardo Fibonacci, a mathematician.

In technical analysis (trading), Fibonacci retracement is drawn by taking two extreme points on a price chart, which results in different levels or ratios – 23.6%, 38.2%, 50%, 61.8%, and 100%. These Fibonacci ratios are used by traders to determine possible support and resistance levels in the market. Typically, these are the level where the price tends to hold and reverse from the current direction. Having that said, the price does not hold at every Fibonacci level. It holds perfectly only when it is combined with the price action on the charts.

Consider the below chart of EURCAD. In the recent chart, we see that the market is in an uptrend. The grey ray represents the support and resistance level. After making a higher high, the price has retraced to the S&R level.

Now the question arises if this retracement is a pullback to the uptrend or a potential reversal. To figure this out, we shall apply the Fibonacci retracement to the chart.

In the below chart, we have incorporated the Fibonacci retracement onto the price chart. If we look at the same S&R level, we see that the price is also holding at the 38% level. Hence, this gives us double confirmation that the market is preparing to head north. And in hindsight, the price does make a higher high.

Market Transition

Traders, especially Price Action traders, study the movement in the prices to determine if the market is preparing for a possible reversal. If a market is going for a reversal, the market gives simple yet effective hints and clues about it. The violation from the definition of a trend is the clue that the market is possibly going to turn around for a reversal.

Let us consider the example of a reversal to the upside. Initially, the market will be in a downtrend, making lower lows and lower highs. But, when it retraces and tries to make a new lower low, it leaves equal low. This becomes our first clue on a market reversal. From the point of the equal low, it rallies up but fails to make a lower high.

Instead, it makes an equal high. These two hints are an indication that the price is not moving according to the definition of a downtrend, and there could be a possible reversal. To confirm the same, we wait for the price to make a higher low. If it does make a higher low, instead of a lower low, we can predict that the market is preparing to head north.

Below is a self-explanatory illustration for the above explanation.

Take the below quiz to check if you have got the concepts correctly. Cheers!

[wp_quiz id=”79321″]
Categories
Forex Course

93. Introduction to Pivot Points

What is a Pivot Point?

What is a Pivot Point?

What is a Pivot Point?

The pivot point is a technical indicator that shows the levels typically used to determine the overall trend of the market in different timeframes. These points are essentially used by professional traders to identify support and resistance levels. As a retail trader, one must keep an eye on these levels to identify potential buy/sell signals. To put in simple terms, the pivot points and its corresponding support and resistance levels are places at which markets can possibly change its direction.

The reason this indicator is very enticing is because of its objective. Unlike other technical indicators, there is no decision making involved. The Pivot Points are very similar to the Fibonacci levels. This is because these levels are pretty much self-fulfilling. However, there are some differences in some respects, which shall be discussed in the next section.

It is important to know that the pivot point indicator is mostly designed for short-term traders who wish to take advantage of small price movements. The technique to trade this is similar to that of trading support and resistance, where we participate in the market on a break or bounce from these levels.

The Difference between Pivot Points and Fibonacci Retracements

Though Pivot points and Fibonacci retracements are made by drawing horizontal lines to depict potential support and resistance levels, there vary in few aspects. In Fibonacci levels, there is subjectivity involved in picking the swing lows and highs. But, in pivot points, there is no discretion involved.

In Fib retracements, the levels can be constructed by connecting any price points on a chart. Once the levels are determined, the lines are then drawn at percentages of the selected price range. In the case of pivot points, fixed numbers are used instead of percentages. And the fixed values are the high, the low, and the close of the prior day.

Interpreting Pivot Points

Pivot points indicator is typically used by traders who trade the market using technical analysis. This indicator can be applied to the Stock, Forex, Commodity, Futures as well as the Cryptocurrency market. This indicator is unique from the other indicators because it doesn’t move with the price action.

It is static, and the levels drawn remain at the same prices throughout the day. This means that traders can plan their strategy much in advance. For example, in most of the approaches, if the price falls below the pivot point, traders will go short on the security. And similarly, if the price goes above the pivot point, they will look for buying opportunities.

How do Pivot Points look?

When the standard pivot points are applied to the charts, it will look something like this (as shown below).

In the above chart, P stands for Pivot Point | S stands for Support | R stands for Resistance

There are R1, S1, R2, S2, etc. as well, but it shall be explained in the upcoming lessons. Stay tuned!

[wp_quiz id=”69068″]
Categories
Forex Course

69. Fibonacci Trading – Detailed Summary

Introduction

Introduction

Introduction

In the past eight lessons, we have learned many things about Fibonacci levels and ratios. We have understood various applications of these levels and identified many ways through which we can profit from these levels. In this article, we are going to summarize all the learnings related to Fibonacci. This article acts as a quick recap of what we have understood until now.

Taking a Trade Using Fibonacci Levels

Entering a trade using the Fibonacci levels is pretty straight forward. We have to wait for the price to retrace and reach the appropriate Fib levels. In an uptrend, these Fib levels are 50% and 61.8%. In a downtrend, these levels are 50% and 38.2%. Hence, both 61.8% & 38.2% are known as Golden Fib ratios. Once the price reaches these levels, you can enter a trade after getting a confirmation. A detailed explanation of this can be found in this article.

Pairing Fibonacci Levels With Other Technical Tools

Fibonacci levels can be used stand-alone to enter a trade. But it is always recommended to use other technical tools to be extra sure about your trades. This is because the Fib levels are not foolproof. That means the price may not respect these Fib levels 100% of the time. More about this can be understood here.

So, to be extra affirmative on what you are doing, make sure to combine the fib levels with other reliable indicators. Some of the tools we used to explain this concept are Support & Resistance levels, Trendlines, Candlestick Patterns, etc.

Using Fibonacci Levels For Risk Management

Not just for entires, Fibonacci levels can also be used for managing and exiting a trade. We know how important risk management is in trading. These levels will help us in managing risk and maximizing profit if used correctly. What we are trying to tell here is that Fib levels act as a perfect tool to place our Stop-Loss and Take-Proft orders accurately.

Fibonacci extensions must be used to decide the placement of various Take-Profit levels. To place accurate Stop-Loss, just used the Fib level, which is below the point of entry in an uptrend. Likewise, use the Fib level, which is above the point of entry in a downtrend. For a more detailed explanation, you can refer to the below articles.

Stop-Loss | Take-Profit

Downloading The Fibonacci Indicator

Fibonacci indicators these days are very well designed and readily available in the market for free. Almost all of the trading platforms are equipped with a Fibonacci indicator that can be accessed on to the charts with just a click. If you are using the TradingView platform, a comprehensive Fibonacci indicator is present in the left side panel. If you are a MetaTrader user, there are some default Fib indicators, but the best one is the Auto Fib, which can be downloaded here.

Other Applications Of Fibonacci Levels

The applications of the Fibonacci levels are not confined to the ones discussed above. There are many other places where these ratios & levels are used for various other reasons. For instance, to confirm almost all of the Harmonic patterns, we use Fibonacci levels. An example of one such article can be found here. In this example, we have confirmed the formation of the Butterfly pattern on the price charts by using Fibonacci levels alone. So every technical trader needs to know and learn how to use these levels to have the edge over financial markets.

That’s about Fibonacci levels. If you have any doubts, let us know in the comments below. In the upcoming course lessons, we will be discussing more technical tools like Moving Averages, Indicators, Oscillators, etc. Hence, stay tuned for more informative content.

Categories
Forex Basic Strategies

Identifying & Trading The Bullish & Bearish Gartley Pattern

Introduction

Introduction

Introduction

We have discussed three of the most used Harmonic patterns in the previous strategy articles, and they are AB=CD, Butterfly, and Bat patterns. In today’s article, let’s learn how to trade one of the oldest Harmonic patterns – The Gartley. Trading harmonic patterns is one of the most challenging ways to trade but equally rewarding. There are traders across the world who highly believe in these patterns because of their accuracy in identifying trading signals, and the high RRR trades they offer.

The Gartley is one of the most commonly used harmonic patterns as it works very well on all the timeframes. IT is also one such pattern that frequently appears on the price charts. H.M Gartley introduced this pattern in his book ‘Profits in the Stock Market’ in the year 1935.

This pattern is also known as the Gartley 222 pattern because H.M Gartley introduced this pattern in the 222nd page of his book. There are both bearish and bullish Gartley patterns, and they appear depending on the underlying trend of the market. The Gartley pattern is made up of 5 pivot points; let’s see what these points are in the below section.

5 Pivot Points of The Garley Pattern

Just like other harmonic patterns, H.M Gartley used five letters to distinguish the five separate moves and impulses of the Gartley pattern.

  • The letter X represents the start of the trend.
  • The letter A represents the end of the trend.
  • The letter B represents the first pullback of the trend.
  • The letter C represents the pullback of the pullback.
  • The letter D represents the target of the letter C.

Gartley Pattern Rules

‘X-A’ – This is the very first move of the pattern. The wave XA doesn’t fit any criteria, so it is nothing but a bullish or bearish move in the market.

‘A-B’ – The Second move AB should approximately be at the 61.8% level of the first XA move. So if the XA move is bearish, the AB move should reverse the price action and reach the 61.8% Fib retracement level of the XA.

‘B-C’ – The goal of the BC move is to reverse the AB move. Also, the BC move should end either at 88.6% or 38.2% Fibonacci retracement level of XA.

‘C-D’ – The CD move is the reversal of the BC move. So if the BC move is 38.2% of the AB, CD move should respond at 127.2% level of BC. If BC move is at the 88.6% level of the AB move, the CD move should be at the 161.8% Fib extension level of BC.

‘A-D’ – This is the last but most crucial move of the Gartley pattern. Once the CD move is over, the next step is to measure the AD move. The Last AD move will show us the validity of the Gartley Pattern on the price chart. The pattern is said to be valid if this move takes a retracement approximately at the 78.6% Fib level of the XA move.

Below is the pictographic representation of the Gartley Pattern

 Gartley Pattern Trading Strategy 

Trading The Bullish Gartley Pattern

In the below NZD/USD weekly chart, we can see that the market is in a clear uptrend. We have then found the swing high and swing low, which is marked by the point X & Point A. We then have four swing-high & swing-low points on the price chart that binds together to form the Gartley harmonic pattern.

Always remember that every swing high and low must validate the Fibs ratios of the Gartley pattern. These levels can be approximate as we can never trade the market if we keep waiting for the perfect set-up. There are indicators out there where the Fibonacci levels are present in them by default. We generally use TradingView, and in this charting software, the below-used indicator can be found in the toolbox, which is present on the left-hand side.

Please refer to the marked region in the chart below. The first XA leg is formed just like a random bullish move in the market. The second AB move is a bearish retracement, and it is at the 61.8% Fib level of the XA move. Furthermore, the BC is a bullish move again, and it follows the 88.6% Fib level of the AB move. The CD leg is the last bearish move, and it is respecting the 161.8% Fib level of BC.

Now we have identified the bullish Gartley pattern on the price chart. We can take our long positions as soon as the CD move ends at the 161.8% level. The next and most crucial step of our strategy is to find the potential placement of our stop-loss. The ideal region to place the stop-loss is just below point X. If the price action breaks the point X, it automatically invalidates the Gartley pattern.

However, stop-loss placement depends on what kind of trader you are. Some aggressive traders place stop-losses just below the entry while some use wider stops. We suggest you follow the rules of the strategy and use point X as an ideal stop-loss placement.

B, C & A points can be considered as ideal areas for taking your profits. We suggest you go for higher targets in the case of the formation of a perfect Gartley pattern. Overall, placing a ‘take-profit‘ order depends on your previous trading experience also. Because, if you come across any ideal candlestick patterns in your favor while your trade is performing, you can extend your profits. We can also combine this pattern with other reliable technical indicators to load more positions in our trades.

Trading The Bearish Gartley Pattern

Below is the EUR/GBP four-hour chart in which we have identified the bearish Gartley pattern. In the highlighted region, we can see the formation of the bearish XA leg like a random bearish move. The second leg is AB – a bullish retracement stopping at the 61.8% level of the XA move. Furthermore, the BC move is bearish again, and it respects the 88.6% Fibs level of the AB move. CD is the final bullish move, and it is respecting the 161.8% Fibs level of BC.

As soon as the price action completes the CD move, we can be assured that the Gartley pattern is formed on our price chart. We can also see the formation of a Red confirmation candle indicating us to go short in this Forex pair. We have taken our short positions at point D and placed our stop-loss just above point X.

We have three targets in total, and they are points B, C, and A. Within a few hours, the price action hits the B point, which was our first target. Moreover, the price pulled back at point C, but we were safe in our trade as our stop-loss was placed above point X. Our final target was at point A, which is achieved within four days.

Conclusion

The Gartley pattern is wholly based on mathematical formulas and Fibonacci ratios. Remember to take the trades only when all the mentioned Fib levels are respected. If you have no experience with harmonic patterns, you must master this pattern on a demo account first and then use them on the live markets. We are saying this because it requires a lot of patience and practice to identify and trade these patterns.

We hope you understood how to identify and trade the Gartley Harmonic Pattern. If you have any questions, let us know in the comments below. Cheers!

Categories
Forex Course

68. Using Fibonacci Retracements To Place Appropriate Stop-Loss

Introduction

Introduction

Introduction

Until now, we have paired the Fibonacci levels with various technical tools to find appropriate trading opportunities. Some of them include support/resistance, trendlines, and even candlestick patterns. In the previous lesson, we also saw how to place appropriate ‘take-profit’ orders to maximize our profits. The uses of the Fibonacci levels do not end here. There is another incredible application of these levels, and that is to find the appropriate ‘stop-loss’ levels. ‘

As a trader, one should always use the ‘Stop-Loss’ orde as they are critical to avoid the risk of bearing huge losses. In some adverse situations, if this order is not used, it would result in a complete drain of trading capital where we can have the risk of losing everything in a single trade. Placing an appropriate stop-loss ensures that we do not expose ourselves to the unbearable risk.

However, placing the stop-loss order randomly might expose us to the risk of getting stopped out very early. So the proper placement of this order is crucial, and it can be hard for traders who aren’t experienced enough. So the Fibonacci tool can be a great help for us in determining accurate stop-loss levels.

Using Fibonacci Levels To Place Appropriate Stop-Loss Orders

In the below chart, we see a big initial move to the upside on which the Fibonacci levels are plotted using the Swing low and Swing high. Using the ‘Fibonacci strategy,’ we can notice a retracement that has reacted fairly well from the 61.8% Fib level, and now if the next candle is green, this could be a confirmation for us to go ‘long.’

We notice in the below chart that the next candle appears to be Green, and now with that confirmation, we can place our ‘buy’ trades with appropriate ‘stop-loss’ and ‘take profit.’ The traditional way of using a stop-loss order is to place it 50 pips away from the point of entry. Most of the novice traders use this method even today. This is said to be a layman’s approach with no suitable reasoning. When we use such methods, there is a high chance of we getting stopped out before the trade moves in our favor.

The below chart shows that how placing a 50 pip stop-loss can prove to be dangerous. We can see the stop-loss getting triggered by the immediate next candle after the entry was made.

Now let’s see how to place the stop-loss order using Fibonacci levels. The strategy is to place the stop-loss at the Fib level, which is below the Fib level from where the retracement reacts and gives a confirmation candle. Taking the above example, since the retracement touched the 61.8% Fib ratio and gave a confirmation candle, the stop-loss will be placed at the 78.6% Fib ratio. This seems to be very simple, yet most traders are not aware of this.

In the above chart, we can see how the price just misses our stop-loss placed at the 78.6 Fib level and later directly went to our take-profit. This shows the precision of stop-loss placement, which was established using the Fibonacci levels.

Conclusion

We must understand that stop-loss determination is a crucial step and has to be calculated mathematically using any reliable technical indicators. Indicators like Fibonacci have a mathematical approach in determining these levels. Make sure to use these levels before going to place your stop-loss levels next and let us know how they have worked for you. Cheers!

[wp_quiz id=”64961″]