What is Fibonacci Retracement?
Fibonacci retracement is a tool that, by drawing a line from the low to the high (or vice versa) of a defined price move, plots several horizontal levels based on ratios from the Fibonacci sequence. The core idea is that after a strong move, price usually “retraces” part of that path, and this retracement often stalls or reverses near these same levels.
How it's calculated
The common Fibonacci levels come from dividing consecutive numbers in the Fibonacci sequence: 23.6%, 38.2%, 50% (which isn't technically part of the sequence but is traditionally included), 61.8%, and sometimes 78.6%. The tool automatically applies these percentages across the distance between two chosen points (a low and a high) and draws the corresponding horizontal lines.
How to read the chart
In an uptrend, traders usually draw the line from the low of the move to its high, and the retracement levels below the high are treated as probable zones for buyers to step back in; in a downtrend, the same is done in reverse. The 61.8% level is usually known as the most important and strongest retracement level.
Trading signals
Many traders wait for price to reach one of the Fibonacci levels and then look for other confirming signs, like a reversal candlestick pattern or a jump in trading volume at that same zone, before entering a trade. A Fibonacci level overlapping with an old support or resistance level significantly raises that zone's credibility.
Strengths and limitations
Fibonacci retracement isn't a fully objective tool; choosing the low and high points is somewhat subjective, and this can produce different results for different traders on the same chart. For this reason, it shouldn't be the basis for a decision on its own, without confirmation from other tools.
Practical tip
For a more precise choice of low and high points, use clear, well-defined candles on higher timeframes; the more valid the chosen points are, the more reliable the resulting Fibonacci levels will be.