Advanced Fibonacci Applications

The document discusses advanced applications of Fibonacci analysis for traders, including Fibonacci extensions, clusters, and Gartley patterns. Fibonacci extensions project key retracement levels out further and are used to forecast future support and resistance. Fibonacci clusters overlay retracements from various highs and lows to identify significant support and resistance levels. The Gartley pattern combines "M" and "W" tops and bottoms with Fibonacci levels to form a reliable indicator. The document advocates using multiple Fibonacci tools together with other indicators and patterns to increase the probability of successful trades.

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Advanced Fibonacci Applications

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Advanced Fibonacci Applications

October 19, 2005 | By Justin Kuepper

http://www.investopedia.com/articles/trading/05/AdvFibonacci.asp

There is more to the world of Fibonacci than retracements, arcs, fans and timezones! Every year
new methods are developed for traders to take advantage of the uncanny tendencies of the market
towards derivatives of the golden ratio. Here we will discuss some of the more popular alternative
uses of Fibonacci, including extensions, clusters and Gartleys, and we'll take a look at how to use
them in conjunction with other patterns and indicators.

Fibonacci Extensions
Fibonacci extensions are simply ratio-derived extensions beyond the standard 100% Fibonacci
retracement level. They are extremely popular as forecasting tools, and they are often used in
conjunction with other chart patterns.

The chart in Figure 1 shows what a Fibonacci extension forecast looks like.

Figure 1 - The above is an example of how the Fibonacci extension levels of 161.8% and 261.8%
act as future areas of support and resistance.

Here we can see that the original points (0-100%) were used to forecast extensions at 161.8% and
261.8%, which served as support and resistance levels in the future.

Many traders use this in conjunction with wave-based studies - such as the Elliott Wave or Wolfe
Wave - to forecast the height of each wave and more clearly define the different waves. (To learn
more about Elliott Waves, see Elliott Wave Theory. For further reading on Wolfe Waves, see
Advanced Channeling Patterns: Wolfe Waves And Gartleys.) Fibonacci extensions are also
commonly used with other chart patterns such as the ascending triangle. Once the pattern is found,
a forecast can be created by adding 61.8% of the distance between the upper resistance and the base

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of the triangle to the entry price. As you can see in Figure 2 below, these levels are generally
deemed to be strategic places for traders to consider taking profits.

Figure 2 - Many traders use the 161.8% Fibonacci extension level as a price target for when a
security breaks out of an identified chart pattern.

Fibonacci Clusters
The Fibonacci cluster is a culmination of Fibonacci retracements from various significant highs and
lows during a given time period. Each of these Fibonacci levels is then plotted on the "Y" axis
(price). Each overlapping price level makes a darker imprint on the cluster, enabling you to see
where the most significant Fibonacci support and resistance levels lie.

Figure 3 - An example of Fibonacci clusters is shown on the right side of the chart. Dark stripes are
considered to be more influential levels of support and resistance than light ones. Notice the strong
resistance just above the $20 level.

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Most traders use clusters as a way to gauge support and resistance levels. One popular technique is
to combine a "volume by price" graph on the left side, with a cluster on the right side. This allows
you to see which specific Fibonacci areas represent intense support and/or resistance - high-
volume, dense areas are key support and resistance levels.

This technique can be used in conjunction with other Fibonacci techniques or chart patterns to
confirm support and resistance levels.

The Gartley Pattern

The Gartley pattern is a lesser-known pattern combining the "M" and "W" tops and bottoms with
various Fibonacci levels. The result is a reliable indicator of future price movements. Figure 4
shows what the Gartley formation looks like.

Figure 4 - An example of what bullish and bearish Gartley Patterns look like.

Gartley patterns are formed using several rules regarding the distances between points:

• X to D - Must be 78.6% of the segment range XA.

• X to B - Must be near 61.8% of the XA segment.
• B to D - Must be between 127% and 161.8% of the range BC.
• A to C - Must be 38.2% of segment XA or 88.6% of segment AB.

How can you measure these distances? Well, one way is to use Fibonacci retracements and
extensions to estimate the points. You can also download a free Excel-based spreadsheet
from ChartSetups.com to calculate the numbers. Many traders also use custom software, which
often includes tools developed specifically to identify and trade the Gartley pattern.

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Fibonacci Channels
The Fibonacci pattern can be applied to channels not only vertically, but also diagonally, as seen in
Figure 5.

Figure 5 - Fibonacci retracement when used in combination with Fibonacci channels can give a
trader extra confirmation that a certain price level will act as support or resistance.

Again, the same principles and rules that apply to vertical retracements apply to these channels.
One common technique employed by traders is the combination of diagonal and vertical Fibonacci
studies to find areas where both indicate significant resistance. This can indicate a continuation of
the prevailing trend.

Conclusion - Putting It All Together

Fibonacci patterns are best used in conjunction with other patterns and indicators. Often, they give
a precise point to a more general move. A Fibonacci extension will give you a specific price target,
but it is useless if you don't know that a breakout is likely to occur. It takes the triangle pattern,
volume confirmations and an overall trend assessment to validate the Fibonacci price target.

By combining indicators and chart patterns with the many Fibonacci tools available, you can
increase the probability of a successful trade. Remember, there is no one indicator that predicts
everything perfectly (if there were, we'd all be rich). However, when many indicators are pointing
in the same direction, you can get a pretty good idea of where the price is going. (To learn more
about Fibonacci studies, see Fibonacci And The Golden Ratio.)

By Justin Kuepper