Candlesticks, Fibonacci, and Chart Pattern Trading Tools : a synergistic Strategy to Enhance Profits and Reduce Risk

Figure 6.11
S&P 500 chart from 11–01 to 11–02. Calculation of price band.
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FIBONACCI PRICE CORRECTION LEVELS
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Traders often ask whether they can predict price movements
with the Fibonacci ratio. The answer is that we cannot say in advance
whether a precalculated price target will ever be reached. But what we
can say is that as soon as a price target precalculated by the combined
Fibonacci f igures is reached, the chances for a trend change are high.
Although the best price targets are those at which the Fibonacci
levels 1.618 and 61.8 percent overlap, these perfect targets are rare.
Fibonacci extensions are calculated using the ratios from the PHI se-
ries: 0.382, 0.618, 1.000, 1.618, 2.618, and so on. If we calculate large
enough swing sizes, smaller ratios for calculating Fibonacci exten-
sions become more important in combination with Fibonacci price
corrections.
If we take the latter argument into account, the analysis shown
in Figure 6.11 on the S&P 500 Index becomes easier to understand. In
our example, we have applied the ratio 0.382, instead of 1.618. The price
band on the chart, therefore, is based on the following calculations:
• The Fibonacci correction level of 50 percent between point A and
point B leads to a target price of 975.00 points in the S&P 500
Index.
• The Fibonacci extension level of 0.382 leads to a target price of
963.00 points in the S&P 500 Index.
Because we focus on large swings that last over months, we can-
not expect to f ind price targets calculated at ratios of 1.618 (exten-
sion) or 61.8 percent (correction) to be easily reached.
In our example, we have calculated the f irst wave of a long-term
S&P 500 Index market movement. If it holds true that we have f in-
ished the f irst and second wave of a 3-wave price pattern, the S&P 500
Index is currently in the third wave. The next price target is the high
of wave one at 966.00.
If the market price moves continuously higher, the correction
levels of 50.0 percent and 61.8 percent become critical price targets
that traders should watch carefully. In the event of further rising
prices, new price extension levels based on swings that have not yet
been realized may be used for additional calculations.
Whenever Fibonacci price correction levels of 50.0 percent or
61.8 percent are reached on large swings, we might not enter the
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