From the February 2014 issue of Futures Magazine • Subscribe!

Fibonacci expansion: A better way to time price targets

Simple application

A trading minimalist can appreciate the simplicity of relying on pure price action to decide how to place and manage a trade. Many popular indicators simply create clutter and confusion, eroding confidence as opposed to bolstering it as the market landscape shifts and trends change. Fibonacci, on the other hand, is rather exceptional. It works well in both a trending market and in periods of congestion.

Although learning a new system of market analysis might seem daunting, and the plethora of Fibonacci applications can make some traders shy away, many Fibonacci techniques are surprising simple to use and are relatively foolproof. Perfection is not necessary.

A Fibonacci expansion is a type of extension tool that relies on three price points instead of the typical two you will find when using Fibonacci retracements. The first two anchor points in a three-point expansion are based on a primary trend move, otherwise known as an “impulse wave,” in a futures, currency or security.

In an uptrend, the first anchor point is the low of the uptrend. This is shown as “A” in the accompanying charts. After selecting the Fibonacci expansion tool in your charting platform, click on this first low to begin the expansion. Next, click on the high of the impulse wave. This is shown as “B” in the accompanying charts. The third point, marked “C,” anchors the expansion move itself.  

Consider a trade in the E-mini Dow futures as an example. This trade uses Fibonacci expansions to demonstrate how to identify a target that developed overnight. The indicated circle in the first chart in “Expanding opportunity” (below) shows an early buy trigger that was missed, while the circle in the second chart shows an entry zone caught later that morning after the Fibonacci expansion was re-applied. 

Many traders struggle with drawing Fibonacci levels properly, but even levels that are not drawn ideally will yield strong support and resistance points. Indeed, if you pick a number of random highs and lows in a security on which you base Fibonacci levels, many of the resulting horizontal lines cluster together at certain price zones. These clusters are what traders use to distinguish major from minor support and resistance.

Fibonacci expansion works well for establishing price targets. When a trader can place a target level on a chart visually, holding for that target point is much easier than simply waiting for an upside move of indeterminate size. By seeing the Fibonacci-based targets hit consistently over time, it makes it even easier to hold positions into those target levels instead of jumping ship too early.

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