Fibonacci retracement is a widely-used technical analysis tool that helps traders identify potential support and resistance levels in the financial markets.

Whether you are trading forex or stocks, understanding how to apply Fibonacci retracement can help traders identify potential entry and exit points and assess potential market reversals through technical analysis. 

Key Points 

• Fibonacci Retracement helps traders identify potential support and resistance levels using a sequence discovered by Leonardo Fibonacci in 1202, applicable across various financial markets. 
• The tool guides traders in identifying entry and exit points, profit targets, and potential reversal zones, offering a systematic approach to trading. 
• Case studies demonstrate its practical use in example scenarios, showcasing how it may be applied as part of a trading analysis process. 

What is Fibonacci Retracement? 

A well-known technical analysis tool that many traders use to navigate the erratic markets, Fibonacci Retracement is used to study future potential support and resistance levels based on previous price movement.  

What is the Fibonacci Sequence? 

The Fibonacci Sequence is a series of numbers where each number is the sum of the two preceding ones, starting with 0 and 1. This sequence is significant because it reveals the Golden Ratio (1.618), a mathematical relationship that appears frequently in nature, architecture, and financial markets.  

Traders use this ratio and the related retracement levels in technical analysis to assess potential market movements. The Fibonacci Sequence helps identify patterns in market trends, making it a tool used by some traders to identify potential support and resistance levels, thus aiding traders in making informed decisions. 

Fibonacci’s Golden Ratio 

Fibonacci’s Golden Ratio, approximately 1.618, is a mathematical constant found throughout nature, art, and financial markets. This ratio is derived from the Fibonacci Sequence, where the ratio of consecutive numbers approaches 1.618 as the sequence progresses.  

In trading, this ratio plays a crucial role in identifying potential reversal points or continuation patterns. Fibonacci retracement levels, such as 61.8%, are closely tied to the Golden Ratio and are used by traders to identify potential support and resistance areas in price movements. 

Fibonacci Retracement Levels Explained 

Apart from the famous Fibonacci Retracement, there are many other tools that serve as extensions such as Trend-based Fibonacci Extension, Fibonacci Channel, Fibonacci Time Zone etc. 

However, the primary focus would be on the retracement. The application of the Fibonacci Retracement can be applied to many financial instruments on CFDs including the foreign exchange market, stock market, and even the Cryptocurrency market.  

Within the financial markets, by taking two extreme points on a swing trend, the tool divides the area in between, which serves as an area of interest for traders to consider a trade. Furthermore, it also provides insight to possible levels of take profit or levels where markets may reverse.

Fibonacci Retracement Levels	Usage
0%, 100%	For bullish markets, 100% represents the low while 0% represents the high. For bearish markets, 100% represents the highs while 0% represents the low.
23.6%, 38.2%, 50%	Shallow levels of retracement that some traders may consider when assessing a potential trade setup.
61.8%, 78.6%	Deep levels of retracement. Some traders may consider these levels as potential areas of interest when assessing a trade setup.
-27%, -68%	Potential take-profit areas that some traders may consider after a retracement.
127.2%. 161.8%	Potential reversal areas that some traders may consider if the final retracement level (78.6%) does not hold.

Table 1 – Fibonacci Retracement Levels & Usage ^[2,3] 

In trading, Fibonacci retracement levels are derived by dividing the vertical distance between two extreme points on a price chart (usually a swing high and swing low). These levels are used by traders: 

• Identify key levels: Traders use key levels to identify where the market price might experience a pullback or continuation. 
• Plan entry and exit points: Traders use Fibonacci levels to time their trades, entering at a retracement and exiting near an extension. 
• Predict market reversals: If the price reaches a retracement level, some traders may assess the level for potential signs of a reversal or continuation of the current trend. 
• Manage risk: By identifying strategic points to enter a trade, Fibonacci retracement may help traders structure potential entry, stop-loss and take-profit levels, although it does not guarantee a favourable risk-to-reward ratio. 

How Fibonacci Retracements Works in Trading 

Fibonacci retracement is a key tool used by traders to analyse potential turning points in market trends. It operates by measuring the distance between two extreme points—typically the highest high and the lowest low of a trend—and dividing that distance by the key Fibonacci levels (23.6%, 38.2%, 50%, 61.8%, and 78.6%).  

Identifying Potential Reversal Points 

Fibonacci retracement levels are commonly used to spot potential areas where the market might reverse its direction. When a price pulls back from a recent high or low, traders often look to the key Fibonacci levels (especially 38.2%, 50%, and 61.8%) as potential reversal zones.  

If the price retraces to one of these levels and shows signs of weakening, traders may interpret this as an opportunity to enter a trade in the direction of the original trend, anticipating a rebound or continuation. 

Setting Stop-Loss and Take-Profit Levels 

Fibonacci retracement levels are also useful for setting stop-loss and take-profit orders. For example, a trader might place a stop-loss just beyond the 61.8% retracement level to protect against a deeper pullback while aiming for a take-profit at a negative Fibonacci extension level like -27% or -68%.  

These levels may help traders structure potential stop-loss and take-profit points, although they do not guarantee a favourable risk-to-reward ratio or profitable outcome. 

Fibonacci Retracement Trading Strategies 

Just through the Fibonacci Retracement tool alone, a trader can determine four key points; determining the trend (0% & 100%), areas of entry (23.6% to 78.6%), multiple areas to secure profits (-27% & -68%), areas that market would reverse if the main bias does not hold (127.2% & 161.8%) ^[4].  

This essentially enforces structure in every trade, which in turn can provide a structured framework for analysing potential trade setups, although they do not eliminate the risk of human error.  

Combining Fibonacci with Other Indicators 

While Fibonacci retracement is a powerful tool on its own, combining it with other technical indicators may provide additional information when assessing a potential trade setup.  

Popular indicators such as moving averages, Relative Strength Index (RSI), and trendlines may be used alongside Fibonacci levels as additional information when assessing potential entry and exit points. For example, when a Fibonacci retracement level aligns with a moving average or an oversold/overbought signal from RSI, some traders may use this combination as additional confirmation when assessing a potential trade setup.  

This combination may help traders assess potential signals and market conditions from different perspectives, providing a more comprehensive view of market conditions. 

Risk Management Considerations 

Effective risk management is crucial when using Fibonacci retracement in trading. Although Fibonacci levels provide potential support and resistance areas, traders should always combine them with solid risk management practices.  

Setting appropriate stop-loss levels just below or above key Fibonacci retracement points (like 61.8% or 78.6%) may help limit potential losses, although losses can exceed the intended amount depending on market conditions. Additionally, traders may use Fibonacci levels to identify potential take-profit targets, although this does not guarantee that profits will be secured or prevent losses.  

Fibonacci Trading: How to Trade Using Fibonacci Retracement  

Through the various case studies discussed below, it will highlight the proper usage of the Fibonacci retracement tool from planning to execution, and to exit strategy. The case studies will touch on both buy and sell examples on different CFDs on currency pairs to show the versatility of this tool.  

The examples below are hypothetical and provided for illustrative and educational purposes only. They demonstrate one way Fibonacci Retracement may be applied and do not constitute investment advice or a recommendation to buy or sell any financial instrument. Past performance is not an indication of future results, and actual trading outcomes may differ. The use of Fibonacci Retracement does not guarantee profitable results, and traders may incur losses when trading CFDs.

Case Study 1 – Fibonacci Retracement Buy Application 

Case study 1 shows a buy trade on XAUUSD using the Fibonacci retracement tool. 

Assuming a bullish bias, figure 1 shows an identification of a swing low to swing high on gold using the Fibonacci Retracement tool as indicated by the purple boxes. 

In figure 2, gold markets retraced to 78.6% Fibonacci Retracement level which may be considered by some traders as a potential area of interest when assessing a buy setup. For illustrative purposes, the example places the stop loss one Fibonacci level below the entry, in this case, below the 100% level. The take profit level used would be the -68% level. This example is hypothetical and for illustrative purposes only and does not indicate any expected return or risk-to-reward outcome.

Figure 3 shows the illustrative trade reaching the take-profit targets used in the example, demonstrating how Fibonacci Retracement may be incorporated into a trade plan from entry to exit.  

Case Study 2 – Fibonacci Retracement Sell Application 

Case study 2 shows a sell trade on AUDUSD using the Fibonacci retracement tool.  

Assuming a bearish market, figure 4 shows AUDUSD with the application of the Fibonacci retracement from a high to a low, indicated by the purple boxes.  

In figure 5, AUDUSD can be seen retracing into the 61.8% level, which may be considered by some traders as a potential area of interest when assessing a sell setup. This example is hypothetical and for illustrative purposes only and does not indicate any expected return or risk-to-reward outcome.  

Figure 6 shows the illustrative AUD/USD sell example reaching the take-profit level used in the example, demonstrating how Fibonacci Retracement may be incorporated into a trade plan.  

Case Study 3 – Fibonacci Retracement Reversal Levels 

At times when the trader’s bias is wrong (bullish bias but bearish market), reversal levels serve to help the adaptive individual to change market conditions. Case study 3 illustrates how Fibonacci reversal levels may be considered when assessing a change in market conditions.  

Note in figure 7, the Fibonacci Retracement is applied with the intent of a GBPUSD buy trade idea, from a swing low to a swing high.  

In figure 8, the retracement levels do not seem to hold any weight and GBPUSD markets have broken below the 100% level.  

Figure 9 showcases how Fibonacci levels may be considered when assessing a potential change in market conditions, with reversal levels 1 and 2 used for illustrative purposes. This example is hypothetical and for illustrative purposes only and does not indicate any expected return or risk-to-reward outcome.  

Fibonacci Retracement in Popular Trading Platforms 

The Fibonacci Retracement tool is not limited to just the mentioned platforms. However, here’s how you can find the Fibonacci Retracement tool on the following platforms.  

Using Fibonacci Tools in MetaTrader 4/5 

MT 4/5 – Insert > Fibonacci > Retracement 

Fibonacci Retracements on TradingView

TradingView – Left toolbar > Fib Retracement 

Conclusion 

The practical application of the Fibonacci Retracement can provide a framework for assessing potential entry, take-profit and reversal levels. Traders should consider the availability of numerous tools. Nevertheless, the Fibonacci Retracement is one of several technical analysis tools that traders may consider.  

Learn more about how Fibonacci retracement can be used in technical analysis and explore our educational resources on trading CFDs. 

You can also sign up for our free, weekly webinars that will break down the current markets as well as discuss potential trade set ups for the week.

Risk Warning: CFDs are complex financial instruments and carry a high risk of losing money rapidly due to leverage. You should ensure you fully understand the risks involved and carefully consider whether you can afford to take the high risk of losing your money before trading.

Disclaimer: The information is provided for educational purposes only and doesn’t take into account your personal objectives, financial circumstances, or needs. It does not constitute investment advice. We encourage you to seek independent advice if necessary. No representation or warranty is given as to the accuracy or completeness of any information contained within. This material may contain historical or past performance figures and should not be relied on. Furthermore estimates, forward-looking statements, and forecasts cannot be guaranteed. The information on this site and the products and services offered are not intended for distribution to any person in any country or jurisdiction where such distribution or use would be contrary to local law or regulation.