If you just started learning how to use technical analysis, you’ve probably heard traders throw around the term “Fibonacci retracement.” Listening to someone discuss Fibonacci analysis sets most people, including some traders, straight to sleep. Thus, while I could bore you with specific details about Fibonacci retracement setups, I’d rather teach you how to apply this tool. That said, let’s take a look at some examples and Fibonacci retracement basics.
How to Use Technical Analysis: Fibonacci Retracement
The first step to using the Fibonacci retracement is to look for stocks with bullish price action and recently had large moves. This is key when you’re learning how to use technical analysis. The Fibonacci retracement setup arises when a stock that’s had good news or strong technical indicators, and soars and hits a swing high or resistance level, and begins to pull back. It’s that easy. Now, the next thing you need to do is simply identify the recent low and recent high. Thereafter, you just have to use the Fibonacci retracement tool, which is available on nearly every charting software.
Let’s look at an example.
TG Therapeutics Inc (TGTX) recently gapped up and soared after earnings, only to pull back shortly thereafter due to its follow-up data announcement, which disappointed market observers. Check out this daily chart on TGTX.
In this example, notice the Fibonacci retracement drawn on the chart. These are simply areas where the stock could potentially bounce. You could think of them as support areas.
Technical trading isn’t a science, so nothing needs to be exact (and some trades might not work out as planned).
If you purchased the stock around the 50% Fibonacci retracement level, you could have profited on the trade, though you would need to know when to take profits. In this case, it would have been wise to take profits when the stock rose above the 61.8% retracement level.
Here’s a look at another example, this was on my watch list for a while.
I had IZEA Inc (IZEA) on my radar. The stock gapped up and started to pullback and found some support around $2.
Now, I was actually able to buy IZEA under $2, and it turned how to be a winner.
Again, the key here is to look for a stock that has had a large move, just like IZEA. Thereafter, you look for a spot in the Fibonacci retracement and wait for it to rebound off of that level. Now, you always have to look to take profits and not look for an extreme move.
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The Bottom Line
Using Fibonacci retracements takes practice. Before you go out there and start trading using this indicator, practice spotting which levels provide high-probability setups; look, too, for other indicators on the stock, as you don’t want to base trades solely on Fibonacci analysis.
Jason Bond runs JasonBondTraining.com and is a swing trader of small-cap stocks.