My last post focused on using Fibonacci ratios in uptrend Forex trading – The Fibonacci ratios work in the same way when you trade Forex downtrends. Learning these Fibonacci ratios will help you trade Forex with more success.
Fibonacci Ratios in Downtrend Trading
In a downtrend, the Fibonacci ratios are hidden levels of resistance that can give important entry and exit signals. In a downtrend, the Fibonacci ratios represent the down swing retracement as a percentage of the down price swing.
Imagine that the top of the up price swing (the high is 100% and the bottom of the down price swing (the low) is 0%. The retracement (the market’s upward reaction to the down price swing) will cover some percentage of the original swing, from 0 to 100%.
If the retracement covers 38% of the down price swing and then bounces (turns downward, potentially leading to sideways movement or an extension), then it is said to have bounced at the .382 Fibonacci ratio. If the retracing market bounces at 50%, 62%, or 79% then it is said to have bounced at the .500, .618, or .786 Fibonacci ratios, respectively.
If the downtrend is going to continue, the market will, after bouncing at one of the four Fibonacci ratios, turn downward again and form an extension (remember that to qualify as an extension the market must make a new low). This helps you understand how to trade the Forex and become a successful Forex trader.
If the downtrend is not going to continue, the market may hit one of the four Fibonacci ratios and take it out, continuing upward in a reversal. If the downtrend is not going to immediately continue, the market may hit one of the four Fibonacci ratios, bounce there, and then continue a sideways movement before extending the trend or reversing.
If the market will continue in the downtrend, the extension of the down price swing will likely either extend to 162% of the original price swing or 127% of the original price swing, and then bounce there.
Specifically, if the market bounces at the .382, .500, or .618 lines then the extension will cover 162% of the original down price swing (that is, the market will extend from the .382, .500, or .618 line to the 1.618 line). If the market bounces at the .786 line, then the extension will cover 127% of the original price swing (that is, the market will extend from the .786 line to the 1.27 line).
To visualize the extension, imagine that the beginning of the price swing (the first high) is at 0 and the end of the original down price swing (the first low) is at 1. The extension will go to either 1.27 or 1.618 (depending on where the retracement bounced).
It is in this sense that in a downtrend, Fibonacci ratios are hidden levels of resistance. As the market swings within the overall trend, it bounces (making lower highs) at the Fibonacci ratio numbers.
Like uptrends, downtrends move at different speeds – The speed of the trend is defined by how sharply it is falling. Just as in an uptrend, the smaller the Fibonacci ratio, the faster the market moves – the higher the Fibonacci ratio, the slower the market moves.
Be careful that if the market is slowing down when it bounces at .318, .500, or .618 it may not immediately go into an extension (it may not immediately go to 1.618). It is possible that, if the market is slowing down, after bouncing at .318, .500, or .618, it may first extend to 1.27, bounce there, and then fully extend to 1.618.
Now you should see the connection between the Fibonacci sequence and price swings down in Forex trading. In my next post, I’ll discuss some more things you can do with Fibonacci numbers to trade Forex!
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