Fibonacci retracement is a technical analysis tool used to identify potential levels of support and resistance in the price movement of a financial asset. It is based on the idea that markets tend to retrace a predictable portion of a move, after which they may continue in the original direction.
The Fibonacci sequence is a series of numbers where each number is the sum of the two preceding numbers. For example, the sequence starts with 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, and so on. The sequence has many mathematical properties and is found in many natural phenomena.
In Fibonacci retracement, the key levels are derived from the Fibonacci sequence, and are used to identify potential levels of support and resistance in the price of an asset. The key levels are calculated by taking a high and low point on a chart and then applying the Fibonacci ratios of 23.6%, 38.2%, 50%, 61.8%, and 100% to that range. These ratios are then used to identify the potential levels of support and resistance.
For example, if the price of a stock has been in an uptrend and then starts to pull back, a trader may draw a Fibonacci retracement from the high point to the low point of the pullback. The retracement levels would then be calculated based on the Fibonacci ratios, and potential levels of support would be identified at the 38.2%, 50%, and 61.8% retracement levels. If the price bounces off one of these levels, it may indicate that the pullback has ended and the uptrend may continue.
In Fibonacci Retracement if the price of a stock has been in a downtrend and then starts to rally, a trader may draw a Fibonacci retracement from the low point to the high point of the rally. The retracement levels would then be calculated based on the Fibonacci ratios, and potential levels of resistance would be identified at the 38.2%, 50%, and 61.8% retracement levels. If the price encounters resistance at one of these levels, it may indicate that the rally has ended and the downtrend may continue.
Fibonacci retracement can be a useful tool for traders to identify potential levels of support and resistance in the price movement of an asset. However, like any technical analysis tool, it should not be used in isolation and should be used in conjunction with other indicators and fundamental analysis to make informed trading decisions.
