Article last Updated onFibonacci retracements are one of the best ways to understand market price action. Whether you trade stocks, commodities or FX, markets have a tendency to retrace. This article shows a way to trade using Fibonacci Retracements. If you want to understand the method that I used to calculate Fibonacci Retracements in Excel you can view the article: Calculate Fibonacci Retracements.
Trading with Fibonacci LevelsI usually want to trade in the direction of the dominant trend. I think this gives the best opportunities to have big profitable trades. One of the challenges of trading with the trend is when to enter a trade. Retracements allow us to enter at what we hope is a good value price. Fibonacci levels are a way to identify these retracement points. In the chart, the AUD/USD is in a downtrend. This was followed by a period of consolidation. After making a low on 2nd April the price then reacted at the 38.2% level, the 61.8% level and 78.6% level before eventually continuing the downtrend.
Identifying the TrendOne way that I like to use to identify the trend is the Linear Regression line. The linear regression is a statistical tool that creates the best-fit straight line through the price. In this trading strategy, I am only looking at the slope of the line. If the linear regression is pointing upwards (positive value) then I trade long. If the linear regression is pointing downwards (negative value) then I trade short.
Fibonacci Linear Regression Trading StrategyPutting these two elements together we have a trading strategy that trades long and short based on price action.
BacktestI have tested this strategy on the AUD/USD forex pair. I used the daily timeframe between January 2008 and October 2015. I exited trades using a stop-loss and a profit target. The stop-loss was set to 5 * ATR and the profit target was set to 10 * ATR. A trade could also be closed if another trade opened in the opposite direction. I am using a 50-period linear regression line and a 20 period lookback period for the Fibonacci levels. Trades were entered on a retracement to the 38.2% level.
Tradinformed Backtest ModelsI carried out this backtest using a Tradinformed Backtest Model. These models are made in Excel and can be purchased in the Tradinformed Shop.
|Gross Winning Trades||$116,516|
|Gross Losing Trades||$-35,939|
|Largest Winning Trade||$15,801|
|Largest Losing Trade||$-7,066|
|Average Profit Per Trade||$2,518|