Understanding and Using Fibonacci Retracements – PART 2

These unanswered questions about Fib retracements from PART 1 will be answered here:
1. Can we use other technical indicators to confirm it’s a good trade to take?
2. What about factoring in the news?
3. Can we wait for the price to start declining to be sure it’s a good Fib level to sell?
4. What about the stop loss and the take profit?

Can we use other technical indicators to confirm it’s a good trade to take?
Yes, you can use other technical indicators and you should for this simple reason; the Fibonacci retracement trades will work if you correctly choose the high/low swing moves to measure the retracements and you get the direction right.
In PART 1, we identified four retracements that occurred during a downtrend in the GBPUSD pair hourly chart.  We identified the 38.2%, 50%, and 61.8% Fibonacci retracement levels on each of those retracements as possible sell levels.

GBPUSD 1 hour chart – Sept 18^th to Oct 3^rd, 2014

Placing sell trades at the Fibonacci retracement levels that were reached would have resulted in 100% successful trades, assuming the stop losses were placed just beyond the 100% retracement level (see chart above). But they would not have been successful if you choose the wrong high / low swing points to measure the Fibonacci retracements or you got the direction wrong.
Let’s look at some examples:

Choosing the Wrong High / Low to Measure the Retracement
Had we chosen a slightly earlier high than point “A” used in PART 1, the 38.2%, 50%, and 61.8% retracement sell trades would all have been unsuccessful.

GBPUSD 1 hour chart – Sept 19^th to Oct 3^rd, 2014

Getting the Direction Wrong
Had we gone just three days further back on the GBPUSD 1 hour chart than we did in PART 1, we likely would have been looking for Fibonacci retracement buy trades on the move down from the highs. The results of our first few trades would have been all buy trade losers instead of all sell trade winners like in PART 1.

GBPUSD 1 hour chart – Sept 16^th to Oct 3^rd, 2014

What Have you learned so Far?
Drawing the 38.2%, 50%, and 61.8% Fibonacci retracements on the chart is an exact science. But it does not mean that the trades indicated from those Fib retracements will be successful trades. Don’t mix up being able to calculate an exact trade level with choosing a winning trade.
Let’s get this straight. A Fibonacci retracement is a percentage retracement of a prior move and nothing more. Without further analysis, the Fibonacci retracement itself is void of any predictive value.
The Fibonacci retracement gets its predictive value from being part of a larger analysis. So the answer to question 1, “Can we use other technical indicators to confirm a Fib retracement is a good trade to take?” is definitely yes; in fact, it’s a must.

What about Factoring in the News?
The technical indicators used to confirm a Fibonacci retracement trade idea is a good start but it’s not the whole story. Just one economic news event can cause an immediate 180 degree turn in a currency pair’s direction on the day and possibly much longer.
If you’re thinking you don’t need the fundamentals (economic news); think again. Look at it this way, if you knew that the US non-farm payroll to be released in 5 minutes was going to be a much better number than the consensus forecast; would you close out your winning USDJPY Fib retracement sell trades or keep them open and see your good profit turn into a loss in literally seconds because “all you need is the technicals”?
The bottom line is this; the economic news will impact your trade results so it needs to at least be considering as part of your analysis process. Even if all you do is close your trades before the major news events, you are reducing your unwanted risk significantly. However, there is a lot more you can do with the news. This will be the subject of a future blog.

Wait for the price to start declining to be sure it’s a good Fib level to sell?
Some traders find it inconvenient or undesirable to watch the market. They prefer to trade rotisserie style (set it and forget it). Most institutional traders prefer to watch the market and adjust their trade ideas and their open trades to the changing market conditions.
For them, waiting for a possible Fib sell idea to start to work before entering the trade is business as usual. For me personally, waiting for the trade to do what I think it should do is a must. I am always happy to trade off getting in at a worse price for confirmation that it is the right trade to be in.
So yes, waiting for the price to start declining to be sure it’s a good Fib level to sell is a GREAT idea in my estimation.
Wait about the stop loss and the take profit?
Once again the issue of watching the market or not watching the market comes into play. Market watchers have the advantage of moving their stops when the opportunity to lock in profit and reduce risk presents itself; set and forget traders can make a half-hearted attempt to do the same using trailing stops but such a mechanical approach is not nearly as effective.