Fibonacci Numbers: How important are these for Trading?

Leonardo Fibonacci, an Italian mathematician, is credited for introducing Fibonacci sequence in his book (year 1202). However Virahanka’s work in 700 AD seems to have discussed the series pretty clearly.

The sequence starts from 1 & 1 and next digit is sum of last 2 digits. The sequence goes as follows:

1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, 233, 377, 610, 987…

Fibonacci Series

Golden ratio is the ratio of the 2 quantities if the ratio is same as ratio of their sum to the larger of the two quantities.

Golden Ratio

The ratio of the Fibonacci number with the penultimate number as we tend towards end of the series is called “Golden Ratio”. The golden ratio is roughly equal to 1.618.

Fibonacci number or the golden ratio has strong presence in the nature. A starfish has 5 arms, a Fibonacci number. Humans have 8 fingers in total, 5 digits on each hand, 3 bones in each finger, 2 bones in 1 thumb, and 1 thumb on each hand. The ratio between the forearm and the hand is the Golden Ratio. Many flowers have petals which are Fibonacci numbers. So number of petals in a flower would either be 3 or 5 or 8 but almost never 4.

Fibonacci Numbers

It is this natural presence of Fibonacci series which attracted technical analysts’ attention. Fibonacci numbers are primarily used for either predicting support/resistance levels or to identify price targets/stops. Fibonacci numbers’ accuracy in finding important levels in any widely tradable market is fabulous.

Fibonacci retracement is primarily based on the idea that markets will retrace a predictable portion of any move. Following Fibonacci ratios are used for the purpose of technical analysis:

0% and 100% are extremes of any directional price-move on which Fibonacci is to be applied.

0.618 is golden ratio [(34-21)/21 = 0.618]

0.382 (38.2%) is found by dividing any Fibonacci number by the number that is found two places to the right in the series. [(34-21)/34 = 0.382]

0.236 (23.6%) is found by dividing any Fibonacci number by the number that is found three places to the right. [(34-21)/55 = 0.236]

0.764 (76.4%) is the result of subtracting 0.236 from the number 1.

Applying Fibonacci retracement/extension requires defining 2 key anchor points. These points define a unidirectional move which is regarded as primary move on which Fibonacci series is applied.

Fibonacci numbers can be used on charts in following ways. (Charts below are sourced from Bloomberg and the Fibonacci is applied on India’s benchmark equity index SENSEX)

  • Fibonacci retracement is the potential retracement of a financial asset’s original move in price. Applied on SENSEX it suggests first key support on any correction in the index should be around 24805 (23.6% Fibonacci retracement of rally since Feb-lows).

    Fibonacci Retractment

  • Fibonacci extension consists of technical-levels drawn beyond the standard 100% level and are used by many traders to determine areas where they will wish to take profits. Applied on SENSEX for the bull-run between 2008-2010; next key resistances is expected around 26232 (138.2% Fibonacci extension) and 27814 (150% extension).

    Fibonacci Extension

  • Fibonacci projections are the Fibonacci levels of a historical move projected from a third point. In the chart below we can clearly see how well projection levels have worked. Next key resistance comes around 28547.

    Fibonacci Projections

  • Fibonacci fans are consisting of three diagonal lines that use Fibonacci ratios to help identify key levels of support and resistance. In the chart below on SENSEX, Fan-Lines have worked as decent supports in 2011.

    Fibonacci Fans

  • Fibonacci Projection channel provides levels within or outside of a trend-channel, when markets are trending in a particular direction.

    Fibonacci Projection Channels

Conclusion

Fibonacci retracement, projection and extensions are most common used Fibonacci tools. We suggest applying Fibonacci on multiple historic price moves. Then price-zones with dense cluster of Fibonacci lines can be considered as better support/resistance.

A general rule of thumb is to enter in the direction of prevailing trend at a retracement of between 50% and 61.8%. Such a trade normally has a target of ~123.6% in the direction of trend. Such trades should have stop at 76.4% of the prevailing move, providing a very good Risk:Reward ratio for the trade.

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Trading lessons from day-to-day games

The marketplace is inundated with thousands of books and other reading material related to investing and trading. These books give a good insight about the fundamentals governing the capital markets as well as proven technical analysis tricks. Aside from these, we can garner important investing skills from games which we play in our everyday life.

Trading Lessons from Poker and Monopoly

Let us talk about important lessons which we can learn from the well known games like Poker and Monopoly.

Trading lessons from Poker

The most basic lesson is, never thinking of trading as gambling. If you want to gamble, go to some casino and try your luck. It would be great fun if you are prosperous. But when trading with your tough gained money, get a mindset of a poker player.

Trading Lessons from Poker

Renowned poker players take calculated risks in the game. They very well know, which hand to play and which hand to fold. They focus on how to limit losses and smartly make the most from a good hand. We can consider this as trading with discipline and religiously sticking with pre planned stop losses. Besides, whenever there is an opportunity in the marketplace, a trader should not doubt his trade and should gain maximum from it.

Also, a trader should know when to trade and when to sit mum. A trader should also be aware that he should not get excited seeing a great deal and eventually losing in excitement. Strike while the iron is hot.

Investing lessons from Monopoly

If you’ve played Monopoly in your childhood, you can easily connect it to investing. Some investment lessons are as follows:

Trading Lessons from Monopoly

Patience

To win at Monopoly, you need a proper game plan. You just can’t pull ahead by buying everything where the dice lands you. You need to be patient to proceed forward with your design. If you impatiently buy everything, you will drain your wealth soon. Alike is the patience involved in investing. Patience is an important component of a disciplined investment.

Diversify

You cannot gain ground by simply owning a single block on the board and loading it up with houses and hotels.The prospects of the opponent landing on that block are rare. Similarly, it is difficult to win by buying everything on the board without building houses and hotels. Likewise, in investing or trading, you cannot place your entire wealth in one or two stocks.Thither is a possibility of your analysis going wrong and you are left with naught.Besides, owning many stocks can be disastrous if a few stocks will wipe away the combined earnings from the remaining pile.Branch out your money smartly across different industries as well as asset classes.

Don’t be cashless

To win in Monopoly, you require to receive cash in hand in the remainder.If you randomly buy every property, you will move out of hard currency at the time of paying money to other players.You might have to sell those properties at a discounted price. This will be your losing point. Always have some excess cash when lucrative opportunities arrive in the marketplace.

The most expensive asset might not be the best investment

Participants want to own expensive points on the board as they deliver a high monetary return.But they forget to calculate the percent coming back on that investment and also their maintenance charges are high. So always focus on the value that you get for risking your money.

Concentrate on cash flow

Your win atMonopoly is dependent on the cash you get as rent from your properties. And then you should place houses and hotels in the properties which will bring you good returns on your investments.Investing in stocks, which suffer a full history of assured dividends can be an instance of this.

Conclusion

There is no minimal or maximum experience required to garnish these valuable skills.And they are equally significant as having sound financial market knowledge.The procedure to acquire these skills is very sore for most of the market players, but once these skills are honed, you are nearer to achieving your financial goals.

#TradeSmart

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Insider Trading: What It Means For You

It is not a coincidence that corporate executives seem to always know when to buy or sell shares at right times. The owners or key executives such as CEOs and CFOs have access to every bit of the company information unlike retail traders and investors, who get to know the things through the company’s announcement and press. Insider trading is a wide concept that could help you to determine the opportunities to earn profit.

What Is Insider Trading?

Insider trading is the trading of a public company‘s stock or other securities (such as bonds or stock options) by individuals with access to the non-public information on the company. In various countries, insider trading based on inside information is illegal as it is seen as unfair to the other investors, who do not have access to such information.

Insider Trading

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Trading a Chess Board

If you are an investor – novice or professional, a few important things need to be picked up from the game of Chess. A trader is an argumentative subset of an investor and it becomes all the more important for him or her to follow a few rules – Rules of the Road.

Chess play is an art and not a science although it requires calculation and avid sense of logic. One, who is a trader doesn’t go by the rules and often pay the price for misjudgment of their own investment. Learning how to play Chess can help them overcome the same.

The different categories of pieces have their own significance based on how they move on the board. Let’s put a price tag on each of the categories based on their supply and demand and not to forget the type of their individual move.

Chess and Trading

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Overbought Stocks: How to Identify and Take Advantage

The term “overbought” is used to describe a stock or market that has advanced or reached a point, from where it historically retreated or moved lower. To identify overbought conditions in markets, traders and investors use technical indicators known as oscillators.

Also, we can say that overbought is a situation, where investors have bought the stock abundantly, and now the stock is seeking to take a reverse and move to a lower price.

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