Fibonacci retracements are one of the most popular technical analysis tools used by forex traders. The fibonacci sequence is a mathematical concept that is used to identify possible support and resistance levels in a market. This article explains what fibonacci retracements are and how they can be used in forex trading.
What is Fibonacci?
Fibonacci is a mathematical sequence that is used to describe patterns in nature, art, music, and finance. The sequence is named after Leonardo Fibonacci, an Italian mathematician who discovered the sequence in the 13th century. The sequence starts with 0 and 1, and each subsequent number is the sum of the two preceding ones, which creates the following sequence: 0, 1, 1, 2, 3, 5, 8, 13, 21, and so on.
The fibonacci sequence has a unique mathematical property where the ratio of any two adjacent numbers in the sequence approaches the golden ratio of 1.618. This ratio is found in many natural and man-made structures, such as the proportions of the human body, the dimensions of the Parthenon temple in Greece, and the designs of famous paintings like the Mona Lisa.
What are Fibonacci Retracements?
Fibonacci retracements are a technical analysis tool used to identify possible support and resistance levels in a market. These levels are based on the fibonacci sequence and are calculated by taking the high and low points of a price movement and dividing the distance by key ratios of the fibonacci sequence.
The most commonly used ratios for fibonacci retracements are 38.2%, 50%, and 61.8%. These levels are used to identify areas of possible support or resistance where prices may bounce back or break through.
How to Use Fibonacci Retracements in Forex Trading?
Fibonacci retracements are used in forex trading to identify potential entry and exit points based on the price movement of a currency pair. Here are the steps to use fibonacci retracements in forex trading:
Step 1: Identify the High and Low Points
The first step is to identify the high and low points of a price movement. This can be done by looking at a chart of the currency pair and finding the highest and lowest price points over a given period of time.
Step 2: Draw the Fibonacci Retracement Levels
Once the high and low points are identified, the fibonacci retracement levels can be drawn. This is done by dividing the distance between the high and low points by the key ratios of the fibonacci sequence (38.2%, 50%, and 61.8%).
Step 3: Identify Possible Support and Resistance Levels
The fibonacci retracement levels are used to identify possible support and resistance levels where prices may bounce back or break through. The 38.2% level is considered a shallow retracement level and is often used as a support or resistance level. The 50% level is considered a moderate retracement level and is also used as a support or resistance level. The 61.8% level is considered a deep retracement level and is often used as a reversal level.
Step 4: Identify Entry and Exit Points
Once the possible support and resistance levels are identified, traders can use them to identify potential entry and exit points. For example, if the price of a currency pair has reached the 38.2% fibonacci retracement level and starts to bounce back, this could be a possible entry point for a long position. Conversely, if the price breaks through the 61.8% fibonacci retracement level, this could be a possible exit point for a long position.
Conclusion
Fibonacci retracements are a popular technical analysis tool used by forex traders to identify possible support and resistance levels in a market. These levels are based on the fibonacci sequence and are calculated by dividing the distance between high and low points by key ratios of the sequence. Traders can use fibonacci retracements to identify potential entry and exit points based on the price movement of a currency pair. Fibonacci retracements are not a foolproof trading strategy, but they can be a useful tool in a trader’s toolbox.
