The Usefulness of High-Compression Fibonacci Levels

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The Usefulness of High-Compression Fibonacci Levels

Fibonacci levels are something that I pay special attention to in trading both forex and binary options. Essentially all charting software packages allow you to manually plot Fibonacci levels on a chart, usually by drawing them from the low point to the high point of a recent trend in the given asset. I usually will only plot them on Daily and Weekly timeframes, as those tend to provide the most robust levels. But I have heard of some traders successfully using them on the lower timeframes for scalping forex and binary options trading. I’ve included a screenshot below of the current Fibonacci levels I have plotted on my EUR/USD chart. Both were drawn from the weekly timeframe.

In today’s binary options trade, I took a put option along a very strong resistance level coupled with the 50% retracement level. It turned out to be one of the best binary trades I’ve ever taken. The 50% level was located at 1.28757 and had been touched yesterday around noon EST and touched again later that afternoon. By the time I took the trade at 3:25AM EST the EUR/USD had been in an uptrend over the past couple hours, but based on previous resistance and the general respect the market tends to have toward 50% Fib retracement levels, 1.28757 was probably going to present a strong trading opportunity.

That said, I didn’t immediately hop on the put option button as soon as 1.28757 was touched. Price had gone up about 20 pips within the past fifteen minutes by that point, which was an obvious indication that northward momentum was strong and a potential breach could be in store if there was enough buyers in the market. But sure enough, price reached about a pip above the 50% retracement on the 3:15 candle before sharply heading back down. This told me that the euro simply didn’t have enough juice at the moment to breach the level outright and head to new highs. Another visit to 1.28757 would likely lead to another rejection. About ten minutes after the initial touch, price came back up to 1.28757 before I finally took my put option on the 3:25 candle. It was a bit of a longer trade – I was in it for around 17 minutes – but it turned out to be over a ten-pip winner. By the 3:50 candle, price had retreated from the 50% retracement level by over 20 pips.

If you don’t already use Fibonacci levels in your trading at least as a tool to supplement your trading and find potential turning points in the market, I would strongly recommend doing so. The strategy I use for any type of trading fundamentally revolves around price levels that I feel might be robust enough to hold. There is no fundamental reason why price tends to gravitate toward Fibonacci levels – they simply tend to work because enough traders use them on their charts to drive price to those areas.

And once again, I can’t help but stress the importance of being patient and finding only the best set-ups to trade. When I first started trading binary options nearly two years ago, I was more of a higher volume trader, thinking that trading more will allow me to make more money. Of course, it turned out to be quite the opposite. Now today, I’m quite strict about the set-ups I take and my accuracy is as high as ever (close to a 75% win rate). In today’s trade, I was eyeing a certain level the entire time, yet when it came to it I didn’t automatically trade it, preferring to wait and confirm that I had a strong level of resistance. If price had never gone back up to 1.28757 and I missed the trade entirely I wouldn’t have had the slightest regret. It’s all about patience and knowing that if you have some sort of trading strategy that gives you a statistical edge on the market and you consistently apply it over and over and over again, you have a good chance of being a successful trader.

Fibonacci Retracement Levels in Day Trading

Tool to Help Isolate When Pullbacks Could End

Moves in a trending direction are called impulses, and moves against a trend are called pullbacks. Fibonacci retracement levels highlight areas where a pullback can reverse and head back in the trending direction, making them helpful in confirming trend-trading entry points.

Origins of Fibonacci Levels

Fibonacci levels are derived from a number series that Italian mathematician Leonardo of Pisa—also known as Fibonacci—introduced to the west during the 13th century. The sequence starts like this:

0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89.

Each new number is the sum of the two numbers before it. As the sequence progresses, each number is approximately 61.8% of the next number, approximately 38.2% of the following number, and approximately 23.6% of the number after that. Subtract 23.6 from 100, and the result is 76.4.

These are Fibonacci retracement levels: 76.4, 61.8, 38.2, and 23.6.

The Relevance of the Sequence

What Fibonacci and scholars before him discovered is that this sequence is prevalent in nature in spiral shapes such as seashells, flowers, and even constellations. As a spiral grows outward, it does so at roughly the same rate as the percentages derived from the Fibonacci ratios.

Some believe these ratios extend beyond just shapes in nature and actually predict human behavior. The thinking is that people start to become uncomfortable with trends that cause changes to happen too rapidly and adjust their behavior to slow or reverse the trend.

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According to this theory, if someone started out with $100 in his wallet, he would begin to slow his spending—or stop altogether—once he has spent about $61.80 and has only about $38.20 remaining.

How to Use Fibonacci Retracement Levels

When a stock is trending very strongly in one direction, the belief is that the pullback will amount to one of the percentages included within the Fibonacci retracement levels: 23.6, 38.2, 61.8, or 76.4. Some models also include 50%.

For example, if a stock jumps from $10 to $11, the pullback should be expected to be approximately 23 cents, 38 cents, 50 cents, 62 cents, or 76 cents. Early or late in trends, when a price is still gaining or losing steam, it is more typical to see retracements of a higher percentage.

In this image, you’ll notice that between 61.8% and 38.2% there are two downward trends. This is an example of a Fibonacci retracement. The theory states that is a usual circumstance for stocks to trend in this manner because it is inherent in behavior to follow the sequence.

If your day trading strategy provides a short-sell signal in that price region, the Fibonacci level helps confirm the signal. The Fibonacci levels also point out price areas where you should be on high alert for trading opportunities.

Using a Fibonacci retracement tool is subjective. There are multiple price swings during a trading day, so not everyone will be connecting the same two points. The two points you connect may not be the two points others connect.

To compensate for this, draw retracement levels on all significant price waves, noting where there is a cluster of Fibonacci levels. This may indicate a price area of high importance.

Retracement Warnings

While useful, Fibonacci levels will not always pinpoint exact market turning points. They provide an estimated entry area but not an exact entry point. There is no guarantee the price will stop and reverse at a particular Fibonacci level, or at any of them.

If the price retraces 100% of the last price wave, the trend may be in question. If you use the Fibonacci retracement tool on very small price moves, it may not provide much insight. The levels will be so close together that almost every price level appears important.

Fibonacci retracements provide some areas of interest to watch on pullbacks. They can act as confirmation if you get a trade signal in the area of a Fibonacci level. Play around with Fibonacci retracement levels and apply them to your charts, and incorporate them if you find they help your trading.

Cryptocurrency Trading: Identifying and Using Fibonacci Retracement Levels

Identifying key levels of resistance and support is one of the basic jobs of technical analysis. Finding appropriate points for these levels, however, is difficult and frequently a moving target. The best systems for finding resistance and support levels incorporate several different analytical tools to check and confirm the others tools’ findings.

A popular and slightly esoteric tool that’s finding increased usage in the cryptosphere is Fibonacci retracement. Fibonacci numbers and their ratios appear to be hard-coded into the very fabric of the universe for reasons not entirely understood. They permeate nature, mathematics, markets, and human behavior.

Using Fibonacci retracement levels alongside other technical analysis tools can give a crypto investor a more complete understanding of the market and a kind of crystal ball for price movements.

Understanding Fibonacci

Leonardo Pisano, popularly known as Fibonacci, was studying the relationships between different number sets in the year 1202 in his homeland of Italy. While writing a mathematical guide aimed at merchants, Fibonacci discovered something downright strange. If you write a list of numbers in which each new number is the sum of the previous two – 1, 1, 2, 3, 5, 8, 13, 21, and so on – those numbers are linked by a certain ratio. These so-called Fibonacci sequence numbers are related by the ratio 1.618, known as phi or the Golden Ratio.

The Golden Ratio crops up in a variety of natural systems. Mollusk shells are built year-by-year according to the Golden Ratio, and the Golden Ratio and its associated Fibonacci numbers can be found in the spirals of sunflower seeds, the arrangement of leaves on stems, the structure of DNA, and the human cardiac cycle. Our hearts literally beat to the tune of the Golden Ratio.

Fibonacci Spiral, Image from Wikipedia

The inverse of the Golden Ratio is 0.618, or 61.8 percent. What this practically means is that nature – and the humans and market that dwell in it – tend to arrange things in a roughly 62/38 pattern. Given two different choices, both equally frivolous, a group of people will decide between the two choices in a 62/38 pattern, instead of the expected 50/50.

It is this characteristic that is most interesting to traders. Simply put, levels of both resistance and support tend to occur at points dictated by the Fibonacci sequence and particularly around the Golden Ratio.

Fibonacci Goes to Market

Finding the somewhat spooky phenomenon of Fibonacci numbers and the Golden Ratio in the market is relatively simple. The most common levels identified in Fibonacci retracement are 23.6 percent, 38.2 percent, 50 percent, 61.8 percent and 100 percent. These represent numbers in the Fibonacci sequence related to one another by division ratios. Note that the all-important 61.8 percent, the inverse of the Golden Ratio, is represented.

Fibonacci Retracements, Image from YouTube

Fibonacci retracement levels provide static reference points, in opposition to moving averages. This allows traders to see at a glance where prices can be expected to make a significant movement, either up or down.

These levels also make handy placeholders for buy triggers. Short-selling at a Fibonacci retracement level is a common tactic, assuming that strategy has been confirmed by a complementary method.

Again, the inverse Golden Ratio is the most significant level to keep an eye on. When a cryptocurrency’s price hits that level, you can expect buyers and sellers to swap places.

Of course, this is just a guideline, and it bears repeating that real Fibonacci retracement levels should be confirmed with another tool or method. It’s also worth mentioning that markets rarely turn on exact figures, and so between 5–15 percent wiggle room should be allotted around the Fibonacci levels just to be on the safe side.

Taking Advantage of Fibonacci

One of the interesting things about Fibonacci retracement levels is that they provide a kind of self-fulfilling prophecy. Because they are so widely used and recognized, individual traders tend to pattern their buying and selling behavior around them. This, in turn, reinforces the usefulness of Fibonacci retracement levels. In other words, the market would probably unconsciously move around these indicators, but the conscious decision to use and act around them reinforces them.

The larger the market in question, the more likely that Fibonacci retracement levels are to appear. This is because it is a broad generalization; it does not lend itself well to small data sets, as there is not enough raw data for a definite pattern to emerge. Think of the plants that are governed by the Fibonacci sequence. A single plant might have a mutation that alters its number of leaves, or an accident might have stripped certain leaves away. Averaged over the entire population of that plant, however, the Fibonacci sequence becomes evident.

Fibonnaci Retracements in Crypto, Image from YouTube

That is why Fibonacci retracement levels tend to be most useful for extremely high-volume coins, like Bitcoin and Ethereum, and are less useful for altcoins with still-developing markets.

Physically computing Fibonacci retracement levels isn’t overly complicated. A line is drawn between a given coin’s high and low price, and then the distance between the top and the bottom are divided by the aforementioned Fibonacci ratios.

Many exchanges have this function built-in, further simplifying the process.

Fibonacci in Action

If this all sounds a little like magic, that’s because exactly why Fibonacci numbers crop up in nature is incompletely understood. It might help to see a concrete example of Fibonacci numbers in action. If you don’t happen to have a spiraled nautilus shell nearby for study, it might help to take a look at how Bitcoin behaved near its recent peak on Dec. 16, 2020.

When Bitcoin hit the $19,500 mark at that time, it almost immediately began to decline. It struck the 23.6 percent Fibonacci level on Dec. 23, where it hovered until Jan. 6, 2020.

The price then suddenly slipped, arriving at the 38.2 percent level by Jan. 16 and the 61.8 percent – Golden Ratio – level on March 20. It then began its long slog back upward.

What this all means is that Bitcoin ultimately fell about 66 percent from its peak before volume returned and the coin began to recover – within the 5–15 percent margin – allotted around the Golden Ratio Fibonacci number.

Although the route and mechanism by which Fibonacci numbers pervade nature, markets, and human behavior isn’t currently explainable, it’s relatively easy to see that, somehow, it works.

Science fiction author Arthur C. Clarke once said, “Any sufficiently advanced technology is indistinguishable from magic.”

Fibonacci numbers aren’t magic, to be clear. But they do appear to follow certain inscrutable rules. They are not hard and fast, just as almost nothing in nature is hard and fast. They can be influenced by events outside of the “natural order” of a market, such as big government or technological shifts.

For that reason, it’s probably best to approach Fibonacci retracement levels as one part of an advanced technical analysis toolkit. This particular tool has the advantage of both inherent usefulness and widespread adoption, so you can count on at least some movement around the Fibonacci levels due to the fact that other traders are counting on movement at the Fibonacci levels. It’s that self-fulfilling prophecy at work.

In summary, Fibonacci retracement levels, especially the 61.8 percent inverse Golden Mean, are technical indicators that can confirm or reinforce buying and selling decisions. They work whether the market believes in them or not – but since a large portion of the market does, it pays to sit up and pay attention when a coin tests a Fibonacci level.

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