What is the Fibonacci Sequence
The Fibonacci Sequence was created by Leonardo Fibonacci, an Italian mathematician who was born around A.D. 1170. It is a series of numbers where each number is the sum of the previous two. The most famous Fibonacci sequence is 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89… This Fibonacci sequence starts with 0 and 1, and then each number afterward is the sum of the previous two.
How you can use the Fibonacci Sequence in Trading
The Fibonacci sequence can be applied to trading in multiple ways, such as
- Identifying support and resistance levels
- Determining entry and exit points
- Setting stop-loss and take-profit orders
To find Fibonacci retracements, you first need to identify the high and low on the chart you are trading. Then, you apply the Fibonacci ratios to these highs and lows to find the Fibonacci retracement levels. The most common Fibonacci retracement levels are 23.6%, 38.2%, 50%, 61.8% and 78.6%.
The most important levels that tend to act as resistance or support are 38.2%, 50% and the Golden Ratio 61.8%.
How to Setup the Fibonacci Sequence on a Chart
To draw the Fibonacci Retracement levels choose the Fibonacci Retracement Tool then connect a low to a high or a high to a low like on this chart below of Palantir below.
As you can see Palantir is in a downtrend and when you connect the high and low you can see that the stock bounced right off the 61.8% Fib Level at around $11.75 and dropped all the way down to $9.00 that’s a 24% drop in the price. You can also see that the 38.2% fib is acting as a line of support. The key Fibonacci levels can act as support and resistance where the price can change direction. The Fibonacci Sequence is also much more effective when used on a long term chart than a short term chart.
You can also calculate your own Fibonacci Retracements and Extensions using this Calculator if you are unable to draw them.
Why it Works
The Golden Ratio of 61.8% is found in everything from Human DNA, Galaxies, and even Hurricanes which follow the Fibonacci spiral. Other traders are also looking at the Fibonacci Sequence so it can become a physiological level to traders which means it can become a self-fulfilling prophecy as well.