CURRENCY STRATEGIES

Fibonacci fan lines

Currency traders generally use Fibonacci percentages to determine standard horizontal retracement
levels in trending currencies. Using these percentages to construct Fibonacci “fan” lines adds another
dimension to this type of analysis.

BY CORNELIUS LUCA

M onitoring the health tous horizontal Fibonacci lines, there Leonardo of Pisa, an Italian mathe-
of the prevailing are two other ways to apply the matician who introduced the Hindu-
trend is a funda- Fibonacci ratios for retracement analy- Arabic number series that would even-
mental responsibili- sis: fan lines and arcs. We will focus on tually bear his name to Western
ty for any trader. And while at times fan lines and compare them to the Europe in his work titled Liber Abaci
you will benefit from such moves as standard horizontal Fibonacci retrace- (Book of Calculations) approximately
the downtrend that occurred in the ment lines. eight centuries ago.
dollar/Norwegian krone (USD/NOK) The Fibonacci sequence is a number
in the fourth quarter of 2004 (see Fibonacci review series for which every new number is
Figure 1), such relentless trends are the The Fibonacci ratios are named after the sum of the previous two numbers:
exception rather than the rule.
Even the strongest trends
FIGURE 1 — STRONG DOWNTREND
are typically subject to several
pullbacks or retracements Although currencies have a reputation for strong trends, the down move in the U.S. dol-
(shorter-term countertrend lar/Norwegian krone in late 2004 is relatively rare; price trends are more typically inter-
moves). Many traders rely on rupted by periodic retracements, or corrections.
Fibonacci numbers to deter- 7.000
mine likely retracement price U.S. dollar/Norwegian krone (USD/NOK), daily
points. The most popular of 6.900
these so-called Fibonacci lev- 6.800
els are the ratios .382, .50 and
.618, or 38.2 percent, 50 per- 6.700
cent, and 61.8 percent.
6.600
(Actually, 50 percent is not
even a Fibonacci retracement 6.500
level, but it is bundled with
6.400
this group because of its high
technical significance.) The 6.300
basic application of these per-
centages is that a market will 6.200
often pause or correct when it 6.100
retraces 38.2 percent, 50 per-
cent, and 61.8 percent of the Sept. 14 24 Oct. 18 28 Nov. 19 Dec. 13
most recent price trend.
Source: DealBook FX 2
In addition to these ubiqui-

18 April 2005 • CURRENCY TRADER

0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89,
Fibonacci retracements lines have different
144, 233, 377, etc. One of the primary
properties of the series is that as it pro- characteristics than standard support
gresses, the ratio of any number and its
preceding number comes increasingly
closer to 0.618 — e.g., 55/89 =
and resistance lines.
61797, 377/233 = .61803, and
so on. FIGURE 2 — FIBONACCI FAN LINES FOR UPTREND
The Fibonacci ratio is found
Like standard trendlines, Fibonacci fan lines represent support in an uptrending market.
in, among other things, the However, although the fan lines touch some of the earlier price lows in the uptrend, they
geometry of the logarithmic are not constructed by connecting these price lows.
spiral found throughout
nature (in a snail’s shell, etc.). Euro/U.S. dollar (EUR/USD), daily
1.3666
1.360
The ratio of the length of the
arc to its diameter is 1.618, 1.340
which is the inverse of 0.618.
Another natural form that 1.320
exhibits Fibonacci proportions
is the double helix of the DNA 1.3040 1.300
molecule. 1.2846
Fibonacci ratios are used by 1.280
both classic technical analysts 1.2652
1.260
and Elliott Wave practitioners.
For example, Elliott Wave 1.240
adherents often project future
price targets by measuring the 1.220
most recent trend and multi-
plying by a Fibonacci ratio. 1.200
Here’s a summary of some of Sept. 21 Oct. 15 28 Nov. 23 Dec. 17 30 2005
the Fibonacci series’ interest- Source: DealBook FX 2
ing numerical relationships:
(e.g., 55 and 144) approaches uptrend, or add 38.2 percent and 61.8
• The sum of any two 0.382, while the inverse percent from the low of the range to
consecutive numbers in the series approaches 2.618. calculate upside retracement levels for
equals the next number. a downtrend.
• After the first four numbers, Plotting Fibonacci fan lines For example, if a currency pair ral-
the ratio between two Figure 2 shows Fibonacci “fan lines” lied from 1.5000 to 1.7500, the move is
consecutive ascending numbers applied to an uptrend in the Euro/U.S. .2500 and the 38.2- and 61.8-percent
approaches 0.618, which is a dollar (EUR/USD) uptrend. These retracement levels would be 1.7500 -
common retracement percent lines are drawn by connecting the sig- (.2500*.382) = 1.6545, and 1.7500 -
used by traders. nificant high or low that starts the (.2500*.618) = 1.5955, respectively. The
• As the numbers rise, the ratio trend with the key Fibonacci retrace- Fibonacci fan lines would connect the
between two consecutive ment levels for that trend move: You low price of 1.5000 to these two
descending numbers approaches measure the range between a signifi- retracement levels. The 50-percent
1.618, which is the inverse of cant low and a significant high, then level is usually included with these
0.618. deduct 38.2 percent and 61.8 percent two ratios.
• The ratio between every other from the high of the range to calculate The primary advantage of Fibonacci
number in ascending order downside retracement levels for an continued on p. 20

CURRENCY TRADER • April 2005 19

 CURRENCY STRATEGIES continued

fan lines vs. standard horizon- FIGURE 3 — CALCULATING FAN LINES

tal Fibonacci retracement lev-
Here fan lines and standard horizontal Fibonacci retracement levels are applied simulta-
els is the fans will provide ear- neously to the uptrend. The horizontal lines are drawn by calculating the range from the
lier signals. trend’s low to high, and subtracting “Fibonacci percentages” of 38.2 percent, 50 percent
and 61.8 percent of that amount from the high. The fan lines are drawn by connecting
Combining fans and the low price to these three retracement levels.
horizontal retracement
Euro/U.S. dollar (EUR/USD), daily
levels 1.3666 1.360
Let’s take a look at both the
Fibonacci fan lines and hori- 1.340
zontal retracement lines in
Figure 3. In early January, 1.320
1.3040
notice how the pair tested
both the 38.2-percent fan line 1.300
and the 38.2-percent horizon- 1.2846
1.280
tal retracement lines. Price ini-
1.2652
tially bounced off the horizon- 1.260
tal line and followed the fan
line upward for a few days 1.240
before turning lower again.
Retracement lines, whether 1.220
fans or horizontal, behave dif- 1.2026
1.200
ferently from standard sup-
port and resistance lines, 28 Aug. 31 Sept. Oct. 20 Nov. 23 Dec. 27 2005
which are supposed to hold Source: DealBook FX 2
price. When they break, the
market is expected to fall (when sup- qualities for a longer time. They es below the first (38.2-percent) fan
port gives way) or rally (when resist- behave more like magnets, either line, expect that line to change into a
ance breaks) further. attracting or repelling prices. For resistance level. This means the 50-per-
By comparison, Fibonacci lines tend example, in the case of projecting cent fan line will turn into support,
to retain their support or resistance retracements in uptrends, if price clos- and these two lines will provide the
boundaries of the next trading
FIGURE 4 — BREAKING THE FINAL FAN LINE range.
The 50-percent line is gener-
Price paused around the 50-percent fan line but forcefully (and simultaneously) broke
ally considered to be the
through the 61.8-percent fan line and the horizontal 50-percent retracement level.
strongest retracement level. If
Euro/U.S. dollar (EUR/USD), daily it also gives way, it will turn
1.3666 into resistance and the next
1.360
fan line (61.8 percent) will
1.340 become the third support
level. This is the last line of
1.320
defense for the uptrend; when
1.3040
1.300
broken, it signals the uptrend
1.2846 has ended.
1.280 This kind of analysis aug-
1.2652 ments standard horizontal
1.260 Fibonacci levels; look for
points at which the two
1.240
approaches indicate similar
1.220 retracement levels.
1.2026
1.200 Following the
2004 31 Sept. Oct. 20 Nov. 23 Dec. 27 2005 28 Feb. percentages
Let’s test these concepts on the
Source: DealBook FX 2
evolving EUR/USD price

20 April 2005 • CURRENCY TRADER

 FIGURE 5 — CONVERGING FAN LINES
action. Figure 4 shows the cur- In addition to the existing fan lines, a second set of fan lines is added to gauge potential
rency pair peaked in late- retracements of the new downtrend.
December 2004 and then made
an aggressive six-day decline Euro/U.S. dollar (EUR/USD), daily
in early January. It then hit the 1.3666 1.360
previously discussed double-
1.340
support level.
1.3289
Note also the magnet-like 1.3182 1.320
quality of the 50-percent mid- 1.3076
1.3040
dle fan line, which in this case 1.300
overlapped with the 38.2-per- 1.2846
cent horizontal Fibonacci line. 1.280
The closings around and below 1.2652
1.260
the middle line suggested the
1.2730
next trading range for 1.240
EUR/USD would be between
the 50-percent and the 61.8-per- 1.220
cent fan lines. However, it took 1.2026
1.200
only two days of aggressive
declines to challenge the final 2004 Sept. Oct. 20 Nov. 23 Dec. 27 2005 28 Feb.
fan line, which also proved to Source: DealBook FX 2
be the weakest of the lot.
In this case, traders could In Figure 5, the first set of fan lines retracement levels, and the two meth-
use these various lines as possible tar- is applied to the major uptrend and the ods used in conjunction can identify
gets for profit-taking on short posi- second to the secondary downtrend stronger support and resistance levels.
tions opened after the currency had (countertrend) on the daily EUR/USD Also, because the marketplace has yet
apparently peaked. chart. The intersections between the to use this method much, fan line lev-
fan lines going in divergent directions els will generally not be subject to
Using other inputs can provide confirming support and stop-loss hunting as standard lines.

Don’t ignore additional technical resistance areas.
information when performing this Fibonacci fan lines can offer earlier For information on the author see p. 8.
type of analysis. For instance, immedi- signals than standard horizontal Questions or comments? Click here.
ately after the sharp down move in
January (when the currency pair
bounced off the 38.2 horizontal sup- Related reading
port level), price made a candlestick
pattern called “three methods,” which "The Fibonacci Swing Filter" Active Trader, February 2005
consists of three days of counter- This approach creates an adaptive trading system that adjusts to the
movement to the existing downtrend. market's behavior by measuring price swings in terms of Fibonacci
(This also could have been interpreted retracement percentages.
as a bear flag.)
The second consolidation around "Trading with synchronicity" Active Trader, January 2003
the 38.2-percent horizontal line formed A trading approach that combines Fibonacci price analysis with time analysis
another shorter-term bear flag, and to better identify potential reversal points.
once it started to unfold, it provided
additional confidence in a bearish out- "Candles in the zone" Active Trader, June 2002
look. This candlestick pattern strategy uses Fibonacci ratios to identify changes in
trends and counter trends.
Using more than one set
of fan lines "Technical Tool Insight: Fibonacci ratios" Active Trader, April 2002
Generally, traders should use only one A primer on Fibonacci ratios and their trading applications.
set of fan lines if there is only one trend
being analyzed. However, if more than You can purchase and download past Active Trader articles at
one trend is present, additional sets of www.activetradermag.com/purchase_articles.htm.
fan lines can be applied.

CURRENCY TRADER • April 2005 21