What is Fibonacci in Stocks?

Fibonacci… Sounds like some sort of Italian pasta, doesn’t it?

But worry not, we are still talking about stocks. 

In fact, Fibonacci is one of the most popular technical indicators out there used to forecast possible future price levels of your shares. 

Fibonacci is a BIG deal amongst traders of all markets so you better learn it and love it like your dad’s jokes.

No pressure.  

The Origins of Fibonacci 

The truth is, the concept of Fibonacci was originally created to study the universe and spiral objects within nature (e.g. snail shells and the pattern of seeds plants).

Crazy, I know!

A tool created to study snail shells and plants turned into one of the most popular tools amongst stock traders. You can’t make that up!

Leonardo Fibonacci had an ‘aha’ moment when he discovered a simple series of numbers that created ratios describing the natural proportions of things in the universe.

The ratios arise from the following number series: 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144 and so on. These are also called the Fibonacci numbers.

Wanna try it yourself? Remember to start a sequence of numbers with zero and one. 

There are three main aspects when it comes to Fibonacci that we will cover within this lesson; Fibonacci Sequence, Fibonacci Retracement and Fibonacci Extension. 

Sounds good? Let’s dig in!

What is the Fibonacci Sequence?

The Fibonacci sequence is one of the most famous mathematics formulas adapted for use in various areas of practice. Fibonacci Sequence is a set of numbers where, after 0 and 1, every number is the sum of the two previous numbers. This continues to infinity.

But numbers speak louder than words (am I right?) so let’s take a look at what a Fibonacci Sequence actually looks like in practice. 

Remember, the Fibonacci sequence is calculated by adding together the two previous numbers. It goes as follows:

1 1 2 3 5 8 13 21 34 55 89 144 233 377 …and so on

You can continue until it’s not fun anymore. 

After the first couple of numbers in the sequence, if you measure the ratio of any number to the succeeding higher number, you will get the result of  .618.

If you measure the ratio between alternate numbers you will always get the result of .382.

If you divide any of the numbers in the series by the previous number it will always approximate to 1.618. This ratio is also known as the Golden Ratio, Golden Mean, or Phi. 

Anyway, enough with the maths. One could put an elephant to sleep with all those calculations!

Let’s take a look at the interesting bit.

Exploring the Golden Ratio

Fibonacci’s Golden Ratio can be found in areas of practice you would’ve never guessed. 

Design, architecture, art, photography, and so many others. 

Can’t believe it? Let’s take a look!

fibonacci architecture
fibonacci art
fibonacci photography
fibonacci disney
fibonacci apple
fibonacci twitter
fibonacci logos

Pretty awesome, right? 

But I know what you’re thinking. 

How can all this help with your stock trading?

Believe it or not, these levels are mega important in finding your entry and exit points. 

What are Fibonacci Retracement Levels (Fibonacci Ratios)?

Fibonacci retracement levels (or Fibonacci levels in short) are a predictive technical indicator used by stock traders to perform technical analysis that works on the theory that once price begins a new trend direction, it will most likely return – or retrace – part way back to the previous price level before resuming in the original direction.

Stock traders and investors use these Fibonacci retracements as potential support and resistance areas as they believe that it works best when the market is trending.

The idea is to go long (buy) on a retracement at a Fibonacci support level when the market is in an UPTREND.

And to go short (sell) on a retracement at a Fibonacci resistance level when the market is in a DOWNTREND.

As a stock trader, these are the levels that will be important to YOU and you will most likely highlight on your chart

0.236, 0.382, 0.618, 0.764

Because these levels are inflection points, traders expect some type of price action, either a break or a rejection. 

Fibonacci Retracement Levels on a Chart

Okay, let’s get practical. 

Now, if the retracements are based on a bullish movement, the retracements should indicate potential support levels where a downtrend will reverse bullishly.

If the retracements are based on a bearish movement, the retracements should indicate potential resistance levels where a rebound will be reversed bearishly.

It looks something like this when the lines are drawn. 

fibonacci ratios

The Fibonacci retracement reversals most commonly occur at the 38.20%, 50%, and 61.80% levels (The 50% retracement level is not really a Fibonacci ratio, but many traders often use it as a different theory that suggest that on average stocks retrace half their prior movements). 

fibonacci retracement levels

Fibonacci Retracement in practice

Say your stock is trading at $400 and 61.8% of the previous move is $5, then a trader might look at $405 as a target price for the stock and think about exiting if the price reaches that Fibonacci level. Because, at this level, the Fibonacci extension theory suggests that price might retrace and move lower.

Now, let’s see what this looks like on an actual Stock chart. Remember, the horizontal lines represent the Fibonacci levels.

Not too bad, right?

What are Fibonacci Extension Levels?

The most common extension levels that are used by traders are the same as the retracement ratios and are 1.61, 1.50, 1.38, 1.00, 0.618 and 0.0382.

These levels can help traders and investors to determine potential zones where the current breakout is likely to end and change direction, or a zone for price to have a small pull back then resume its trend.

Trading Stocks Using Fibonacci

As useful as Fibonacci retracements are, it is important to remember that the retracement lines represent potential support and resistance levels.

Notice how we highlighted potential? 

That’s because the Fibonacci retracement lines represent price levels at which one should be alert rather than hard buy and sell signals.

It is super important to use additional indicators when trading. The more that additional indicators are pointing towards a reversal, the more likely one is to occur.