Important methods for fi nding Support and Resistance is reviewed.
How to Use Fibonacci Ratios
Trying to predict where the market is going for certain is not easy. But for the new forex trader, the real job is not to predict where the market is going but to be able to react to what the market is doing. If you cannot know where the market is going, you do and can know what you will be doing. Once key patterns have been observed, the task of the trader is to prepare a strategy for different price scenarios. If the currency does A, then the trader is prepared to buy; If the currency does B, then the trader is prepared to sell. An important tool to use in finding where support and resistance levels are likely to be is the use of Fibonacci levels. Learning how to use Fibonacci levels is a key step in becoming a forex trader.
Fib Resistance and Support Levels
Fibonacci levels are used extensively in trading in general and apply to forex price movements. They provide a projection of where prices are likely to face resistance or support. For example, if a currency pair moves from a low to a high of 200 pips over a period of time and then goes into a sideways action, you can think of the price as trying
to move back to where it started at the low. That would represent a 100% retracement. But on the way down, it will encounter areas where it will stop falling and try to come back up. How far back up? This is where Fibonacci levels are useful. No one really knows why, but the pattern of prices retracing to Fib levels applies in all markets. What the trader needs to know is where these Fib levels are to help prepare a strategy for the trade. It is also important to know because the professionals in the markets use them all the time.
A common question asked by beginners is how and where to draw the Fib lines? Most charts have Fibonacci tools that allow the Fib lines to be generated. A good rule of thumb is to start at the day chart period and use it to locate the most recent price. Ask yourself: Is the price coming from a high or a low? If the price is coming off a low, locate the low. Is it the lowest low? If not, fi nd the lowest low. If it is coming off a high, locate the highest high. Is it the highest high? The Fib resistance line will connect the low to high points and generate the Fib ratios. Let’s look at an example:
Applying Fib Strategy
The best use of the Fib lines is to locate where your next trade should be. For example, If a currency is trending up and then forms a top and stops going up, you can project where it is likely to find resistance on the way down by locating the Fib lines. The 50% level
and the 61.8% level are considered very strong areas where the price action will pause. So prices will test and bounce off the Fib lines, or break through. The Fib levels are projections into the future location of these key areas of support and resistance. Often weeks and days in advance, you can know that a key Fib level is being tested. Rest
assured that the pros know these levels too! That is why when a Fib level is crossed, it often does so with a lot of energy because many other traders are ready to jump into the direction when a Fib level is broken.
Note: Please see Abe’s book “Understanding Forex: Trading to Win” for the remainder of the chapter. Copies can be obtained from the Freebie section of forexhound.com