Retracements

Markets seldom move in one direction for long, but a persistent trend will carry on after a number of retracements. A retracement is movement back in the opposite direction of the trend, which when it ends, will provoke a continuation of that trend.

Mathematical calculations made by 14 century Fibonnaci are used to calculate levels that are commonly used in the markets. We measure the distance from a low to a high, and then calculate levels back from the high of 38.2%, 50% and 61.8%.

A trend that is going to re assert itself will only retrace to either 38.2% or 50% levels, and so the market should find good support at these levels. If the market falls below 61.8%, on most occasions it will retrace 100% of its original movement.

Traders who have missed the first upmove will try to buy again close to the 38.2% and 50% levels, and then see if the trend will resume. Analysts will often identify these levels as good buy levels, and suggest orders be left to buy at these levels.

 

Elliot was a mathematician who studied objects in motion. His theories have been taken up by the market, and used extensively.

In Elliot wave theory, the market is said to move in 5 distinct waves during a trend, which can be labelled and predicted using Fibonnaci levels.

In this move down in the EUR/USD since its launch in 1999, we see a classic 5 wave formation with retracements in the opposite direction before the trend resumes. The uncertainty over the new currency probably assisted in the way that the market moved almost exactly in text book fashion.

In such a move the psychology of the traders can be identified. Those who miss the initial 1st wave down look to sell on retracement levels between 38.2 and 50%. The second wave ends at these points

The third wave is always the most powerful as the trend has been identified, and more sellers emerge.

At the end of the third wave, another retracment sets in before the final 5th wave begins- here late sellers are unable to push the market down as far as the move in the third wave, since early sellers are buyers to take profits. A five wave trend is usually followed by a corrective phase as the market recovers, and traders are uncertain.

 

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Congratulations !

You have reached the end of the first session. Our idea was to give you an appreciation of how the markets have developed, how they function and where price originates. As retail traders we are not the force that will move the markets, and so we have to be clever and analyze the markets. The brief overview of technical analysis you have been given is merely to convince you that technical analysis is a valid method of predicting markets. It is up to you to continue research where you are interested to expand your knowledge.