Understand & Use Fibonacci Ratio’s Part.1 Basic Ratios by Sunil Mangwani
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Fibonacci ratios •
Fibonacci ratios are a very popular tool among technical traders and are based on a particular series of numbers identified by mathematician Leonardo Fibonacci in the thirteenth century.
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The Fibonacci sequence of numbers is as follows: 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, etc.
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Each term in this sequence is simply the sum of the two preceding terms and sequence continues infinitely.
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One of the remarkable characteristics of this numerical sequence is that each number is approximately 1.618 times greater than the preceding number.
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This common relationship between every number in the series is the foundation of the common ratios used in retracement studies.
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The Golden ratio •
The key Fibonacci ratio of 61.8% - also referred to as "the golden ratio" or "the golden mean" - is found by dividing one number in the series by the number that follows it. For example: 8/13 = 0.6153, and 55/89 = 0.6179.
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The 38.2% ratio is found by dividing one number in the series by the number that is found two places to the right. For example: 55/144 = 0.3819.
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The 23.6% ratio is found by dividing one number in the series by the number that is three places to the right. For example: 8/34 = 0.2352.
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Fibonacci ratios in the markets •
For some reason, these ratios seem to play an important role in the financial markets, just as they do in nature, and can be used to determine critical points that cause price to reverse.
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Price has an uncanny way of respecting Fibonacci ratio’s, often quite precisely. Hence one can use the Fib ratios to ascertain the correct technical levels.
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Frankly there is nothing magical about these numbers, and price reacts at these levels simply because a majority of traders are following the ratios.
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The proper use •
Another common mis-interpretation of the Fibonacci numbers is that traders tend to use the same Fibonacci ratio for all kinds of situations.
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Just like the different tools in a carpenter’s tool box, each ratio should be used in a particular situation.
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While you obviously cannot use a hammer for a job that requires a screw driver, similarly you cannot use Fibonacci retracements in a situation where the Fibonacci fans are required.
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Let us have a detailed look at the different Fibonacci ratios and their uses for the correct situations.
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Using these ratios in a proper way gives us a tremendous advantage over the crowd.
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Fib retracements and projections – Fib retracements – •
The basic use of Fibonacci retracements is to find potential levels of support or resistance “behind” the market. If the market is moving up and making new highs, Fib retraces will draw levels BELOW the current price.
Ideal situation to use in –
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To estimate the horizontal levels of support/resistance for a pullback in an existing trend.
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Example of Fib retracements –
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Fib projections – •
The Fibonacci projections are used to determine the expected price targets, once it has crossed the Fibonacci retracement levels.
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If we are anticipating price to begin an uptrend, we can use the last prominent down wave to determine the expected upside targets.
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Thus we are projecting the price action forward, using the last prominent moves.
Ideal situation to use in – • For estimating the price targets after the pullback is completed. We project the price action forward, estimating that it will reach the fib levels.
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Example of Fib projections –
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Elliot waves –
Go hand in glove with Fib retracements & projections. The waves adhere to these ratios quite accurately.
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Fib Expansions – •
The fib expansions determine where prices could potentially move to. The advantage is that these levels are drawn “front” of the market.
Ideal situation to use in – For estimating the price objectives of a 1-2-3 pattern.
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Example of Fib expansions –
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Fib Fans – •
The Fibonacci fans are diagonal lines that use Fibonacci ratios to help identify key levels of support and resistance.
Ideal situation to use in – 1.) To determine the future levels of support/resistance 2.) For price in an existing trend - when price pulls back, and we need to determine the extent of this pullback.
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Example of Fib fans –
To determine the future levels of support/resistance.
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Example of Fib fans –
To determine the extent of a pullback.
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I hope this presentation can help you gain that extra ‘Edge’ over the market.
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Visit my website for more educational and practical information on the correct use of technical analysis.
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We don’t just teach, but also implement the knowledge in the live market.
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