What are Fibonacci Retracements? How to Use Fibonacci Retracement in Forex Trading?
- August 1, 2021
- Posted by: Daniel Richard
- Category: Forex Trading
In forex trading, Fibonacci Retracement is a popular method of technical analysis. It is a mathematical formula that is used for analyzing currency movements. This method follows a particular ratio that was first invented by an Italian mathematician, Fibonacci. Traders use the Fibonacci Retracement to observe the possible support and resistance levels.
If traders want to use Fibonacci retracement in their trading, they need to have a sound knowledge about this formula, like how this formula works and how to use it properly while identifying the support and resistance levels in forex trading.
What are Fibonacci Retracements?
Fibonacci retracement indicates the support level where the decreasing price stops and starts to increase, and also the resistance level where the increasing price stops and starts to decrease. The forex trader uses the Fibonacci retracement level for identifying the possible future price value in the forex market. In a trading chart, the Fibonacci level denotes a horizontal area to analyze the price value.
When a trading chart shows a new price direction, it will retrace the previous price level. There are potential levels in Fibonacci retracements in which the price direction can reverse. Generally, 23.6 percent, 38.2 percent, 61.8 percent, and 78.6 percent are the levels of Fibonacci retracement. Though 50% is not the ratio of Fibonacci, traders use it broadly. The forex traders use the Fibonacci retracement levels because these percentages show the quantity of the previous price movements.
The Fibonacci retracement levels are significant for forex traders because these levels investigate the history of the price chart. It also analyzes the price action, and according to the analysis, these retracement levels forecast the probable future price movements. By following the chart, traders can make the right decision while trading.
How to Use Fibonacci Retracement?
A clear idea about Fibonacci retracement levels is essential for forex traders. It is a horizontal line that refers to the possible support and resistance levels where the running price stops and begins to change the way.
It is crucial for you to know that when the market is running, the tool of Fibonacci retracement works better.
When the market is running up at the Fibonacci support line, on a retracement, the trade is long or suitable to buy.
On the contrary, when the price runs down at the Fibonacci retracement point, the trade is to go short or suitable to sell.
Fibonacci retracement levels try to determine future price movements because it is a technical tool in forex trading.
The Fibonacci theory is that when the price goes in a new direction, it will return to the previous price actions and analyze the past price movement.
Finding Fibonacci Retracement Levels
The current support and resistance points are essential for your trading while finding out the Fibonacci retracement levels. The current Swing Highs and Swings Lows are also significant.
You need to press the Swing High, and after that, drag the mouse point on the current Swing Low for the downtrend.
On the contrary, for the uptrend, it is completely different from the downtrend, first, pressing on the Swing Low, then dragging the mouse point on the recent Swing High.
Therefore, for a clear concept, we need to see some examples of how the Fibonacci retracement levels work in the currency market.
Think of a Fibonacci retracement chart, click on the Swing Low at 0.6955 and after some days, drag your cursor at 0.8364 to the Swing High.
What will you see? The software of this chart automatically calculates and exhibits the Fibonacci Levels.
You need to have a clear idea about these levels on the chart, which were 23.6 percent, 38.2 percent, 50.0 percent, 61.8 percent, and 76.4 percent.
Though the 50 percent ratio is not the official Fibonacci ratio, it is impossible to remove and it will never leave.
If a currency pair retraces from the last Swing High, it will find the support position on Fibonacci retracement levels because traders will place the buy order.
Let’s see an example of Swing High.
Think of the Fibonacci retracement chart; in this chart, price returned right through the 23.6% level, and it was also running to shoot down over the following weeks.
In the same way, it can test level 38.2%, but it is totally unable to close before it.
In this chart, the market started its upward movement again and cracked the Swing High.
Now, it should be crystal clear to understand that buying the Fibonacci retracement level at 38.2% would be profitable for long-term trading.
Now, we will see the Fibonacci retracement levels during the downtrend.
We can use a chart of EUR/USD.
In this chart, you found that on 25 January, the Swing High was 1.4200, and a few days later, on 1st February, the Swing Low was 1.3850.
You have already noticed that 1.3933 (23.6%), 1.3983 (38.2%), 1.4023 (50.0%), 1.4064 (61.8%), and 1.4114 (76.4%) are the Fibonacci retracement levels.
It is expected in a downtrend that if the price explodes from the low, it will meet the resistance at Fibonacci retracement levels. The forex trader, who wants to trade in a downtrend, is always ready to sell orders.
Before testing the 50.0% level, the price can stop under the 38.2% level for a little.
You can make some mad pips by using the retracement levels 38.2% or 50.0%.
It is clear that at the Fibonacci retracement levels, the price always finds some provisional support and resistance in forex.
People use the Fibonacci tool broadly; for this reason, the Fibonacci retracement levels become self-fulfilling the levels of support and resistance.
If most traders believe that retracement may occur near the Fibonacci retracement levels, they will wait for this position. They do not open their trade until the price reaches the Fibonacci retracement levels. That’s why this pending order might impact the price of the market.
All traders need to know that the price does not always jump from the retracement levels.
Using the Fibonacci retracement tool in forex trading is not a simple matter. So, you should always be careful to apply these tools in trading.
Therefore, if the Fibonacci retracement levels are simple and easy to use, traders only use these levels while trading, and the market might trend permanently.