Fibonacci Retracement Explained for Beginners

You’ve probably heard about “Fib levels” and seen them on charts, but if you’re like many beginners, they can seem confusing and complicated.

But don’t worry, these levels aren’t as tricky as they seem. Once you see them in action you’ll find them pretty easy to understand and you’ll be drawing them on your charts in no time.

In this article, we’ll simplify Fibonacci retracements for you. You’ll learn the basics of Fibonacci numbers, where key ratios come from, and how to use the Fibonacci tool in TradingView. By the end, you’ll see that understanding and using Fib levels is simpler than it seems and can enhance your trading analysis.

Introduction to Fibonacci Numbers and Ratios

Fibonacci numbers form a sequence where each number is the sum of the two preceding ones, starting with 0 and 1. This sequence looks like 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89 and so on. These numbers aren’t just random—they have unique properties and appear in various natural phenomena, art, and architecture.

The Fibonacci ratios, commonly used in trading, are derived from these numbers. The most significant ratio, 0.618 (or 61.8%), is known as the “golden ratio.” It’s obtained by dividing a number in the sequence by the number immediately following it. For example, dividing 21 by 34 gives approximately 0.618. Another key ratio, 0.382 (or 38.2%), comes from dividing a number by the number two places to the right, such as 21 divided by 55. The ratio 0.236 (or 23.6%) is calculated similarly, dividing a number by the one three places to the right, like 21 divided by 89.

These ratios are significant in trading because they help identify potential levels of support and resistance as prices retrace.

In technical analysis, these Fibonacci levels are visually represented on charts, guiding traders in making informed decisions about entry and exit points in their trades.

Common Fibonacci Levels

• 0.0% (0)
• 23.6% (.236)
• 38.2% (.382)
• 50.0% (.5)
• 61.8% (.618)
• 78.6% (.786)
• 100% (1)

Additional Fibonacci Levels

• -27.0% (-.27)
• -61.8 (-.618)
• 71.0% (.71)
• 88.6% (.886)
• 127.2% (1.272)
• 141.4% (1.414)
• 161.8% (1.618)
• 227.2% (2.272)
• 261.8% (2.618)
• 361.8% (3.618)
• 423.6% (4.236)

The most common Fibonacci levels used by traders are the 23.6%, 38.2%, 50%, 61.8%, 78.6%, and 100% levels, as they are widely recognized for identifying potential support and resistance points.

How Traders Use Fibonacci Retracements

Fibonacci retracement levels are used to identify potential support and resistance levels. Here’s a typical process:

1. Swing High to Swing Low: Draw the retracement levels from a significant swing high to a swing low.
2. Price Retracement: As the price retraces back towards the swing high, observe the Fibonacci levels. These levels act as potential support or resistance points.
3. Making Trading Decisions: Traders use these levels to predict where the price might reverse or consolidate. For example, if the price retraces to the 61.8% level and starts to bounce back, this could be a buying signal.

Important Fibonacci Levels

Different traders prioritize different Fibonacci levels. Here are some key points:

• 61.8% Level: Often considered a golden ratio, this level is widely watched for potential reversals.
• 78.6% Level: Some traders view this as a crucial level. If the price closes above this level for a week, it may indicate a strong bullish trend.
• 100% Level: Once the price breaks above the previous high, it enters price discovery territory.
• 423.6% Level: This is considered the full extension and a potential ultimate target in a strong trend.

How to Use the Fibonacci Retracement Tool: Swing Highs and Swing Lows

The Fibonacci retracement tool is used by traders to identify potential levels of support and resistance during market corrections or pullbacks. These levels are based on key Fibonacci ratios, which are derived from the Fibonacci sequence. Traders use these levels to make informed decisions about entry and exit points in their trades.

Two Methods of Drawing Fibonacci Retracement:

1. Swing High to Swing Low:

• When to Use: This method is typically used in a downtrend.
• Purpose: To identify potential resistance levels as the price retraces back upwards after a decline.
• Example Explanation: “If a stock has been falling and you want to see where it might face resistance during a bounce, you draw the Fibonacci retracement tool from the most recent swing high (the peak) to the swing low (the bottom). The levels you see will help identify where the price might struggle to move higher and potentially reverse again.” In the image below, Tesla had resistance in the $260 range and might find support around the $220 range.

2. Swing Low to Swing High:

• When to Use: This method is typically used in an uptrend.
• Purpose: To identify potential support levels as the price pulls back downwards after a rise.
• Example Explanation: “If a stock has been rising and you want to see where it might find support during a pullback, you draw the Fibonacci retracement tool from the most recent swing low (the bottom) to the swing high (the peak). The levels you see will help identify where the price might find support and potentially resume its upward move.” In the image below, Tesla might find support around the $220 range.