Mr. Fibonacci (Part 2) – How to Use Fibonacci Levels in Forex Trading

In the previous piece, I talked about how Fibonacci levels came about. Now let’s show you how you can apply the Fibonacci levels to your chart analysis. It’s August 2010. The weather is awesome and you are at the EUR/USD daily forex party, where each candle takes one day to form. You notice that the pair has been moving upward for quite a while, since June 15, so you decide to use Mr. Fibonacci to identify support levels. The idea is that the pair will probably go back down (retrace) to one of the Fibonacci support levels, then will regain energy and shoot back up. That is when you want to place a buy order.

Of course, you want to buy at the cheapest price, so buying at the 61.8 percent or the 50 percent Fibo level would make sense. Since it’s a strong uptrend, you wouldn’t expect a sudden retracement back to 0 percent.

Applying Fibonacci Retracement Levels to an Uptrend

You draw the Fibo levels on the chart and go to sleep. You wake up two weeks later, and what you this.

Fibonacci 50% Level During an Uptrend

Hah! By September 2010, the pair has broken the 23.6 percent and 38.2 percent Fibo levels and is now holding at the 50 percent level! Do you want to wait a bit more and see if the pair goes down to 61.8 percent, or do you want to place your buy order now? Well, it depends on what the other analysis tools are suggesting. You need to make sure that you always check in with all five points of Invest Diva Diamond Analysis, IDDA, before you make a decision.

Let’s say you did your homework, checked with other analysis techniques, and decided that you want to make a buy order at the 50 percent Fibonacci retracement.

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So, you buy EUR/USD at the price of 1.26. The minute you place a buy order, you need to set your stop in order to prevent losses. One of the safe ways is to set your stop at the next Fibo level, which in this case would be 61.8 percent. Obviously, you always want to adjust your trades in accordance with the market environment and check in with other analysis methods as well.

Now you ask, at what price you should get out of the market and take profit? For that you need to set your limit, and please, don’t be greedy. You can take profit at any of the upper Fibo levels to be safe. You can take a bit of risk and set the system to take profit right after the highest level of your Fibo retracement. In this example, let’s say you buy the euro when it was 1.26 (Fibo’s 50 percent level) and set your trading platform to take profit at 1.33 (Fibo’s 0 level). You also adjust your leverage to make higher profit. Then you go to sleep again and wake up in mid-October! (However, sleeping for two weeks after placing an order is not recommended.) Anyways, this is what you will see, Ms. Sleeping Head.

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Where did the pair go? After holding around the 50 percent Fibonacci retracement level for about 15 days (including a break above the 38.2 percent level and going back down to 50 percent), the pair suddenly started to move back up and continued going up until October 26! The price went up all the way to 1.41. You had automatically left the market when it hit 1.33 at the end of September because of your original moderate settings. You obviously could have made more money if you hadn’t set a limit at 1.33, but it’s always better to be safe than sorry, right?

Fibonacci on a Downtrend

Let’s use a shorter time frame (4-hour) in the Pound-Dollar forex party for this example. The following are the steps I took to place a sell order on this downtrend using Mr. Fibo and other analysis tools.

1.I noticed that the GBP/USD pair had been on a downtrend for a number of periods, but showed a bullish signal in the most recent period.

2. I clicked on the Fiboniacci button on my trading platform.

3. I clicked on the swing high (the starting point of this downtrend) and dragged my mouse all the way to the swing low.

4. I confirmed with longer time periods (that is, the daily chart) and other points of the Invest Diva Diamond that the pair was generally in a downtrend.

5. I confirmed with other support and resistance indicators that the pair wouldn’t rise higher than the 61.8 percent Fibo retracement.

6. Based on my analysis, I decided to place a sell order at the 50 percent Fibo level.

7. I clicked on the “New Order” button on my account (fake forex party!).

8. I set the order to “Pending Order.”

9. I selected “Sell Limit” as the order type.

10. I entered the price at the 50 percent Fibonacci level, or 1.58770.

11. I set my “stop loss” one level higher, the 61.8 percent Fibo level, at the price of 1.59200.

12. I checked with other support levels to identify the best exit price and decided on the 0 percent Fibo level at 1.56620.

13. I set my “take profit” at that support level, or 1.56620.

14. I clicked on “Place Order.”

15. I went to work.

16. I kept track of my account.

17. Two days later, I saw this.

50% Fibonacci Level During a Down Trend

50 Percent Fibonacci Acting As a Resistance21. I made some pips!

22. The pair continued down .

23. I got a little bit upset because I hadn’t set my exit order lower, but I soon remembered the famous phrase, “Don’t be greedy in forex trading.” And felt all better.