When price falls, sometimes it bounces back before it reaches a prior support level, as if reversing course “mid-air.” It may seem baffling at first, and you’re probably asking “why did it reverse there, and not higher or lower?” You’re also wondering what caused it to reverse, especially if no news event triggered it.
There’s Fibonacci, Messing With The Markets Again
What might have caused the reversal was a Fibonacci level. Fibonacci was an Italian mathematician who lived in the Middle Ages. He’s known for figuring out all sorts of complex things. We’re not going to get into that (you can Wiki him for more info).
What you need to know is how traders use this tool called a Fibonacci Retracement (Fib retracement for short). Fib retracements help you measure how far price has pulled back (it works for short positions too, but we’ll focus on long positions in this article).
So price moves from a “bottom” to a “top” and then it dips, or pulls back.
A Quick Way To Interpret Fib Levels
Here’s something to know: A larger number of buyers tend to jump in once the “dip” reaches between a 50% to a 61.8% retracement.
At the 50% line, bulls who got in early are in the green; so too are the short sellers who shorted at the top. Someone’s got to give.
You may notice price bounce back from a dip between 50% and 61.8% (these are Fib numbers BTW).
There’s a big caveat though: If price dips below 61.8%, then bulls who are “long” the position may give up, thinking that the bears have the upper hand. They may end up selling their position. And this can cause prices to go lower, extending the dip.
The Takeaway
So, how might you know when to buy a dip? Fib retracements can help. If you see an asset’s price dipping into the 50% to 61.8% range, it might be a favorable time for a BTDF maneuver. But keep your stop loss either below the lowest point of the upward swing or somewhere near it. For if price keeps dipping below 61.8%, it might not go back up for some time.
Please be aware that the content of this blog is based upon the opinions and research of GFF Brokers and its staff and should not be treated as trade recommendations. There is a substantial risk of loss in trading futures, options and forex. Past performance is not necessarily indicative of future results.
Be advised that there are instances in which stop losses may not trigger. In cases where the market is illiquid–either no buyers or no sellers–or in cases of electronic disruptions, stop losses can fail. And although stop losses can be considered a risk management (loss management) strategy, their function can never be completely guaranteed.