Believed by some experts to be the greatest European mathematician of the Middle Ages, Leonardo of Pisa or Leonardo Pisano (who later became known as Leonardo Fibonacci) developed a series of numbers that have an uncanny ability to describe a variety of natural relationships and proportions - from the petal arrangement on flowers to the shape of the spiral in a Nautilus shell. In the 20th century, Fibonacci numbers have proven themselves as being tools for identifying support and resistance levels in markets. The challenge lies in learning how to apply them quickly and easily in multiple time frames, and using them to trade.

Fibonacci Frustrations

The most common charting programs include Fib retracements, arcs, fans and time-frame tools. But by the time the trader has applied these tools to multiple pivot points in multiple time frames, the chart is barely comprehensible, let alone useful for making trading decisions. As a result, most traders use these tools in only a single time frame with only one or two pivot points. While the resulting chart is easy to read, the lines are often not very significant and therefore not reliable because too much data is being ignored.

The reason for this dilemma in using Fibonacci tools is simple. Studies and long-term observations have shown that Fibonacci retracement levels - calculated using numerous pivot point swings in multiple time frames - work best in the zones in which they converge. The more often these lines converge at or near a single price level, the more significant and therefore they become reliable in determining potential pause or reversal points. But calculating and plotting these confluence levels by hand, especially intraday, is both time consuming and complex, so few are able to do it accurately or quickly enough for trading purposes.

Software Solutions
Thanks to the power of modern computers and a software tool called T-3 Fibs Protrader, plotting these levels by hand is no longer necessary. The program, developed by John and Melinda Novak of Nexgen Software Systems, takes all the guesswork and effort out of the process. Developed and designed to work with stock charting program TradeStation, T-3 automatically plots Fibonacci levels for up to 40 different time frames using multiple key pivot points and creates important confluence levels in different colors. Here are some examples of what it looks like on the computer.

Figure 1 – Display showing the S&P 500 eminis plotting in 233 tick and 610 tick as well as one-, five- and 15-minute time frames. The blue lines are automatically generated lines of Fibonacci support, and the red Fib resistance levels. Chart provided by Nexgen Software Systems and Tradestation.

For the purposes of short-term trading, the Novaks have identified time frames that work best for determining usable confluence levels. An indicator called T-3 Autofibs automatically calculates key areas on each time frame. Traders can then see on the charts at which price levels these areas agree. The more times a price level generates a line in each time frame, the more significant it becomes. Using another indicator called the T-3 Accumulator, traders can then choose which time frames they find to be most useful for trading purposes and have them plot on their main trading screen (see Figure 2) in various colors to determine key areas of support and resistance.

Figure 2 – The user then chooses preferred time frames in either tick or minute format to use to trade, and sets up a chart to plot each in a different color corresponding to the various preferred time frames. The white horizontal lines above are derived from the 233 and 610-tick charts, yellow from the one- and five-minute charts and magenta from the 15-minute chart. Where lines of different colors appear in close proximity, areas of confluence exist. The white horizontal line with up and down indentations in the lowest window is the cycle indicator, and the vertical red and blue bars further help in determining trend strength. Charts provided by Nexgen Software Systems and TradeStation.

Once key levels have been chosen, the next task is to decide which levels will provide temporary support or resistance as the equity moves in a prolonged trend, and which levels will prove to be reversal points. This is where skill and experience come in. Pivot points (white vertical bars in Figure 2) along with the red and blue bars in the main chart window - red signifying downtrend and blue signifying uptrend - are designed to make the task of trend determination easier. But it is the rules that the trader has written in their trading plan that determines when and where trades will be taken.

Transition from Novice to Master
Becoming a successful trader takes a complex combination of skill, discipline, experience and the ability to think in probabilities. But, while these traits are essential, the task is nearly impossible without the proper tools. In the markets, where competition is a key force, those with the best skills, experience and access to the latest data and tools will ultimately prevail.

Many traders who have tried using Fibonacci levels to trade manually have given up on them for the reasons discussed above. But these levels do work. Programs like T-3 Fibs Protrader have proven that Fibs do provide valuable insights on key trading areas for those with the knowledge and proper tools to apply them. If you have been frustrated with using Fibonacci levels, be sure to check out T-3 Fibs Protrader - or other programs that use computer power to automate or at least streamline the process - before abandoning Fibs altogether.

Related Articles
  1. Active Trading

    3 Technical Tools To Improve Your Trading

    Find out how volume, the Aroon indicator and Fibonacci numbers can improve your profits.
  2. Active Trading Fundamentals

    Support And Resistance Basics

    Understanding the concept of Support and Resistance in trading can drastically improve your short-term investing strategy.
  3. Options & Futures

    Retracement Or Reversal: Know The Difference

    Learn to distinguish between a temporary price change and a long-term trend.
  4. Forex Education

    Top 4 Fibonacci Retracement Mistakes To Avoid

    Using Fibonacci incorrectly can have disastrous consequences. Find out which common moves to avoid.
  5. Options & Futures

    Make Money With The Fibonacci ABC Pattern

    We break down this indicator into simple, easy-to-understand pieces so you can profit.
  6. Active Trading

    Advanced Fibonacci Applications

    Extensions, clusters, channels and more! Discover new ways to put the "golden ratio" to work.
  7. Investing Basics

    3 Key Signs Of A Market Top

    When stocks rise or fall, the financial fate of investors change, as well. There are certain signs that can reveal a stock’s course, and investors don’t need to be experts to spot them.
  8. Chart Advisor

    ChartAdvisor for October 2 2015

    Weekly technical summary of the major U.S. indexes.
  9. Investing

    How Diversifying Can Help You Manage Market Mayhem

    The recent market volatility, while not unexpected, has certainly been hard for any investor to digest.
  10. Technical Indicators

    Why MACD Divergence Is an Unreliable Signal

    MACD divergence is a popular method for predicting reversals, but unfortunately it isn't very accurate. Learn the weaknesses of indicator divergence.
  1. How do I use Commodity Channel Index (CCI) when creating a forex trading strategy?

    There are a number of ways to use the Commodity Channel Index, or CCI, as either the basis of, or an element of, a forex ... Read Full Answer >>
  2. What are some of the most common technical indicators that back up Doji patterns?

    The doji candlestick is important enough that Steve Nison devotes an entire chapter to it in his definitive work on candlestick ... Read Full Answer >>
  3. Tame Panic Selling with the Exhausted Selling Model

    The exhausted selling model is a pricing strategy used to identify and trade based off of the price floor of a security. ... Read Full Answer >>
  4. Point and Figure Charting Using Count Analysis

    Count analysis is a means of interpreting point and figure charts to measure vertical price movements. Technical analysts ... Read Full Answer >>
  5. What assumptions are made when conducting a t-test?

    The common assumptions made when doing a t-test include those regarding the scale of measurement, random sampling, normality ... Read Full Answer >>
  6. How are double exponential moving averages applied in technical analysis?

    Double exponential moving averages (DEMAS) are commonly used in technical analysis like any other moving average indicator ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Gross Profit

    A company's total revenue (equivalent to total sales) minus the cost of goods sold. Gross profit is the profit a company ...
  2. Revenue

    The amount of money that a company actually receives during a specific period, including discounts and deductions for returned ...
  3. Normal Profit

    An economic condition occurring when the difference between a firm’s total revenue and total cost is equal to zero.
  4. Operating Cost

    Expenses associated with the maintenance and administration of a business on a day-to-day basis.
  5. Cost Of Funds

    The interest rate paid by financial institutions for the funds that they deploy in their business. The cost of funds is one ...
  6. Cost Accounting

    A type of accounting process that aims to capture a company's costs of production by assessing the input costs of each step ...
Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!