Fibonacci levels are frequently used by pro traders in their trading. Fibonacci are leading indicators. This is unlike most other moving average based indicators that are lagging in nature. The good thing about leading indicators is that you know before hand where the price is most likely to react. So you can plan ahead. Watch the video below that explains fibonacci levels for beginners.
Now as explained in the video fibonacci numbers are based on the famous fibonacci sequence that has been found to work in many other fields. But as a trader you should only know that that the next fibonacci number is found by adding the previous 2 numbers. It is as simple as that. The first 2 numbers are 1. After that you just add the previous 2 numbers and you will get the next numbers. Watch the above video which explains how you are going to use these levels in your trading to find the reversal levels. Most of the time we use these levels to find retracements and trend continuations. Below is another good video on how to trade with fibonacci levels.
Why Fibonacci Levels Work Common Sense Approach
The most important question that comes to mind is what is the reason that markets tend to respect these levels. The answer is simple. Markets are just people buying and selling. Whatever the people do effects the market. If the people believe that price is going to go up, price will go up. If people believe that price is going to go down, if there are many then the price will indeed go down. Why? Very simple. When people start selling thinking that price has become too high, then price will indeed start going down and force the reluctant traders also at some point to change their view of price. So essentially markets are just people who are buying and selling and we see their actions depicted on the charts.
Price is just a mechanism which we use to find the equilibrium between supply and demand. This is very important for you to understand. When a big investor buys, price moves before he even buys. Why? High demand causes the price to move up. Which means there is a feedback loop mechanism in the market. Whatever we do gets reflected and affects the price. Which explains why fibonacci levels work. Most traders use these levels so we find the price to react at these levels when many traders buy or sell close to these levels. This is a simple explanation. You can think of this as a self fulfilling prophecy.You can also read this post in which we explain a naked swing trading pattern that always work.
How To Trade Fibonacci Retracement?
As said above when people believe in something, market also believes in that thing. When people think price is high, market also thinks price is high. When people think that the fibonacci levels work, market will also think these levels work. So whatever people believe becomes a self fulfilling prophecy for the market. When we talk of people we are talking of the herd and the herd mentality. In nutshell market is smart and always one step ahead of the crowd. Now this was the theory on why fibonacci levels work. Let’s get back to how to use fibonacci retracement in your trading.
Understanding Fibonacci Support And Resistance Levels
If you are still confused how to find the most recent swing high and the most recent swing low, you can watch this 1 hour video tutorial on understanding fibonacci support and resistance levels by Raghee!
Now you must have understood by now that trading is mostly common sense. You don’t need to learn rocket science in order to become a successful trader. What you need is to learn these simple concepts based on common sense and then use them repeatedly on daily basis in your trading. Of course when you use these trading concepts don’t forget to use your common sense too. The most important thing for you to understand is that you cannot trade solely based on fibonacci. You should use 3 methods to analyze the charts and then make your trading decision of buy/sell only when the 3 methods confirm each other. Watch this video also that explains how banks try to manipulate the markets using these same things that you are using in your trading. For example, there is a strong fibonacci level and many traders in the market have used it to open a sell trade and placed the stop loss just above the stop loss level. Big banks or a big hedge fund can cause a momentary spike just to take out those stop losses and then let the market continue to fall in the direction that it was falling. This type of smart market manipulation keeps on going. You should keep it in your mind. Only way to avoid getting blown up by these monetary spikes is to follow strictly risk management rule of never risking more than 2% on a single trade.