Monitoring the health of the prevailing trend is a fundamental responsibility for any trader. And while at times you will benefit from such moves as the downtrend that occurred in the dollar/Norwegian krone (USD/NOK) in the fourth quarter of 2004, such relentless trends are the exception rather than the rule.
Even the strongest trends are typically subject to several pullbacks or retracements (shorter-term countertrend moves). Many traders rely on Fibonacci numbers to determine likely retracement price points. The most popular of these so-called Fibonacci levels are the ratios .382, .50 and .618, or 38.2 percent, 50 percent, and 61.8 percent.
(Actually, 50 percent is not even a Fibonacci retracement level, but it is bundled with this group because of its high technical significance.) The basic application of these percentages is that a market will often pause or correct when it retraces 38.2 percent, 50 percent, and 61.8 percent of the most recent price trend.
In addition to these ubiquitous horizontal Fibonacci lines, there are two other ways to apply the Fibonacci ratios for retracement analysis: fan lines and arcs. We will focus on fan lines and compare them to the standard horizontal Fibonacci retracement lines.
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