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Trade Using Fibonacci Levels
Have you ever felt confused while trying to detect the support and resistance levels during a trending phase? No worries. We are back with another interesting post. Here, we’ll cover Fibonacci retracement levels, which is one of the tools traders often use to help identify potential support and resistance zones. Let’s get started!
All the concepts covered in this post are taken from the Quantra course Price Action Trading Strategies Using Python. You can preview the concepts taught in this classroom by clicking on the free preview button and going to Section 30 and Unit 8 of the course.
Note: The links in this tutorial will be accessible only after logging into quantra.quantinsti.com
Note that backtesting results do not guarantee future performance. The presented strategy results are intended solely for educational purposes and should not be interpreted as investment advice.
In this post, we will cover the following topics:
- What is the Fibonacci series?
- Importance of Fibonacci numbers
- Fibonacci series for trading
- Fibonacci retracement strategy
If you are new to Python, Python for Trading: Basic course would be helpful.
What is the Fibonacci series?
The Fibonacci series is a series of numbers starting from 0 and 1, and each consecutive number is determined by calculating the sum of the previous two numbers. For example, 0+1 is 1, 1+1 is 2, 1+2 is 3, 2+3 is 5, and so on.
Fibonacci Series
But doesn't it look just like an ordinary series of numbers?
What can be special about it?
Importance of Fibonacci numbers
The reason why the Fibonacci numbers are given so much importance is because this very sequence is observed in many aspects of nature. For example, most flowers tend to have either 3, 5, 8, 13 or 21 petals. Another interesting property of the Fibonacci sequence is that if you divide any Fibonacci number by the previous number in the sequence, you will see that the ratio always comes close to 1.618. And this very number is also popularly known as the golden ratio.
Golden ratio
The spiral pattern obtained after plotting the golden ratio also holds a close resemblance to many naturally occurring patterns, such as the formation of seeds on a sunflower, the spiral structure of seashells, or, for that matter, even the shape of most galaxies in the universe. Since the Fibonacci series is present in so many aspects of our lives, many technical analysts believe that the Fibonacci levels play an important role when it comes to trend-based trading.
Now, you may or may not agree with this view. But one thing for sure is that there is no harm in giving it a try. Let us have a look at how the Fibonacci numbers can be used when it comes to trading.
Fibonacci series for trading
To apply the Fibonacci series for trading, we need to first compute some important ratios. If you divide any number by the next number in the series, you will find that the results get closer and closer to 61.8%.
In a similar way, if you divide any number by two numbers ahead in the sequence, you will see that the results start coming close to 38.2%.
Repeat this with 3 numbers ahead, and you will see that the ratio turns out to be approximately 23.6%.
The other two ratios that are used for trading are 50%, which is 1/2. And 78.6%, which is simply the square root of 61.8%. So what's next after identifying all of these levels?
You probably know that the prices in charts often move in waves. Based on this, any trend can be broken down into two main fragments. First, there are the strong, impulsive moves, and then there are the corrections. Ideally, as a trader, you always want to capture the impulsive moves.
But how would you know when a correction is over, and a new impulsive move is about to emerge? One of the ways, as you may have guessed, is by using the Fibonacci Ratios.
Want to see Fibonacci in action on real price charts? You can watch this video in the Price Action Trading Strategies Using Python course to check some practical examples.
Fibonacci retracement strategy
Until now, you have learned how to identify the Fibonacci levels on the price chart. Let’s now create a trading strategy based on Fibonacci retracement. The strategy can be as follows:
Entry Rules:
- Identify an uptrend by ensuring that the date of the highest price level (max) is more recent than the date of the lowest price level (min).
- Confirm that the range between the min and max prices is at least 25% to ensure a decent magnitude uptrend.
- Wait for prices to enter the buying zone, typically between the 38.2% and 50% retracement levels.
- Buy the asset once prices close between the 38.2% and 50% retracement levels.
Exit Rules:
- Set the stop-loss below the buying zone, typically at the 61.8% Fibonacci level.
- Set the take-profit level above the buying zone, typically at the 23.6% retracement level.
Note: The Fibonacci levels taken here are for illustration purposes only. You can modify the same as per your strategy.
It is important to backtest this strategy so that we can know the effectiveness of this trading strategy.
The strategy discussed above has been covered in detail along with the Python code in this unit of the Price Action Trading Strategies Using Python course. You need to take a Free Preview of the course by clicking on the green-coloured Free Preview button on the right corner of the screen next to the FAQs tab and go to Section 30 and Unit 8 of the course.
What to do next?
- Go to this course
- Click on
- Go through 10-15% of course content
- Drop us your comments and queries on the community
IMPORTANT DISCLAIMER: This post is for educational purposes only and is not a solicitation or recommendation to buy or sell any securities. Investing in financial markets involves risks and you should seek the advice of a licensed financial advisor before making any investment decisions. Your investment decisions are solely your responsibility. The information provided is based on publicly available data and our own analysis, and we do not guarantee its accuracy or completeness. By no means is this communication sent as the licensed equity analysts or financial advisors and it should not be construed as professional advice or a recommendation to buy or sell any securities or any other kind of asset.
