Fibonacci Retracement Explained

What is it?

Leonardo Fibonacci, a famous mathematician, discovered a relationship now known as “Fibonacci” numbers. It’s a sequence of numbers in which each successive number is the sum of the two previous numbers:

1,1,2,3,5,8,13,21,34,55,89…etc

Why does it matter? Well these numbers has a very interesting interrelationships, such as the fact that any given number is approximately 1.618 times the preceding number.

Without going into the boring details, people can now use the “Fibonacci Retracement” tool offered by most charting softwares that will reflect the different Fibonacci levels. Believe it or not, stock prices often change trends at or close to these levels (0%, 23.6%, 38.2%, 50%, 61.8%, 100%).

How To Draw It?

You first choose the time horizon in which you want to analyze…let’s say 6 weeks. Then you find the recent lows and the recent highs in that horizon. (See example below). Then you can simply see the behaviors of stock prices that actually change trends at the Fibonacci levels.

This is a VERY popular tool used by many technical analysts. I often use it myself as well and have served me well. Just remember, this is only a guideline and it will not always follow this theory.

Johnson and Johnson – Recent 6 weeks chart in 60 minutes increments

Fibonacci Retracement