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Trading Breakouts with Fibonacci Retracements

Trading Breakouts with Fibonacci Retracements

Warren Venketas, Analyst

Trading Breakouts with Fibonacci

The breakout market condition is one of the more exciting backdrops because, by definition, something relatively ‘new’ is happening. It can also be a favored strategy amongst forex traders because it can allow for outsized moves that may last for an extended period of time; potentially plotting for a price breakout to develop into a new trend that may allow for

Fibonacci breakouts: Introduction

Fibonacci retracements are a popular tool to use when looking to exploit possible breakout opportunities. Identifying key levels inside of trends using Fibonacci retracements gives traders specific price zones to monitor for price breaks above or below. Implementing multiple time frame analysis can aid traders, bymagnifying long-term information in the effort of finding more granular accuracy in terms of possible entry points. This article will outline how Fibonacci retracements can be used to identify breakout opportunities and how other technical analysis techniques can beincorporated to compliment possible breakout decisions.

How to Trade Range Breakouts with Fibonacci Retracements

The GBP/USD charts below exhibit a potential breakout opportunity using Fibonacci retracements. The first step as always when using the Fibonacci retracement is to locate the relevant high/low or vice versa and draw the Fibonacci retracement as seen on the weekly chart (red box, to the left of the chart). This represents a well-defined high to low. As evident from successive lower highs and lower lows price has tended towards a downward bias. This step is key as identifying the trend will aid in future trade decisions. Trend identification can be recognized in various ways such as price action (used below), oscillators and other technical indicators.

GBP/USD Daily chart:

GBP/USD with Fibonacci

Chart prepared with Tradingview

Notice how after the major move was in, price action went into a range-bound state; with fairly clear definition of resistance around the 76.4% retracement to go along with supports at 38.2 and 50% retracements. Once the longer-term picture has been drawn, traders can look to focus in on smaller time frame charts for more detail. The eight-hour chart focuses in on what happened after that major move. GBP/USD began to range for much of the four months after, with numerous inflections showing off of these Fibonacci retracement levels. But, by mid-July, towards the right side of the chart, buyers began to take control, witnessed by a pullback to and show of support around the 61.8% retracement (highlighted in blue).

At that point, buyers take-over and force a bullish breakout at the same 76.4% retracement that had previously held the highs (indicated by the green box). And after the breakout takes place, buyers continue to drive as a fresh short-term bullish trend has formed.

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GBP/USD Eight-Hour Price Chart

GBP/USD 8 Hour Chart

Fibonacci Support/Resistance: To Break or Not to Break, that is the Question

For traders implementing strategy across markets, there are two primary ways of going about it. Traders can look for directional moves or they can look for mean reversion. With a trend trading strategy, traders are looking to harness the prevailing bias in looking for some element of continuation. Range traders, on the other hand, are looking to take the other side of the matter, looking to get short after a bullish move finds resistance or, on the opposing side, looking to get long after a bearish move brings in a level of support.

The transitory state between a range and a fresh trend is the breakout; when prices push out of the range and go into what could be a fresh trend that might continue. As such, speculating for breakouts can be dangerous because, by nature, the trader is expecting something different to happen as opposed to the status quo.

So key for such approaches are strong risk and trade management, along with an analytical framework that can produce support or resistance levels that can allow for the strategy to be properly implemented. Fibonacci can certainly help in that regards.

Fibonacci breakouts: Summary

Range breakouts can be complex to identify and analyze but implementing Fibonacci retracements can give traders a clearer picture of where support and resistance zones exist. In conjunction with other technical tools, traders can make educated trade decisions on Fibonacci breakout strategies.

Key steps to consider when employing a Fibonacci breakout strategy:

  1. Correctly draw Fibonacci retracement using appropriate high/low and vice versa
  2. Identify the preceding trend
  3. Apply multiple time frame analysis with additional Fibonacci retracements
  4. Locate range
  5. Assess current market conditions
  6. Look for possible breakout opportunities when price breaks above/below resistance/support in line with preceding trend
  7. Employ sound risk management

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.