Fibonacci crypto trading strategy
In the previous blog post, we discussed one of the better strategies to trade the BitShares’ native token BTS paired with USD stablecoin bitUSD, available on Sparkdex trading platform. In this blog post, we look at different ways of using the popular Fibonacci retracement and extension level when trading Bitcoin and other altcoins.
Overview of the Fibonacci crypto trading strategy
Fibonacci ratios represent a sequence of numbers, with each number representing the sum of the two prior numbers. Introduced by Leonardo “Fibonacci” Pisano, an Italian mathematician, the Fibonacci ratios used in trading are derived from mathematical relationships between numbers in the sequence. As a result, the main Fibonacci retracement levels are: 23.6%, 38.2%, 50%, 61.8% and 78.6%, with the three central numbers, namely 38.2%, 50% and 61.8% acting as key levels.
In addition to the retracement levels, traders also use Fibonacci extensions to predict where future waves of the trend will go. Unlike retracement, which is used to determine support and resistance levels of the pullback, extension levels aim to show us where the price may head once the main support/resistance is broken.
Trading Fibonacci retracement
The three key Fibonacci retracements are the key for this strategy. The stronger the initial trend is, the milder the retracement is expected to be. Essentially, the basic idea behind this strategy is to buy on a retracement at one of the key Fibonacci support levels when the market is trending up, and vice versa. This strategy can be classified under the “ride the trend” trading approach, as the price retraces to a previous price level before resuming in the direction of its trend.
As seen in the price chart above, we are monitoring an uptrend from BTS/bitUSD. The first step to identify the retracement levels is to find the recent significant swing highs and swing lows. Here, we see that the price had created a swing low in May, before bursting higher to a short-term high in the days after.
The SparkDEX charting tool allows you to simply draw the Fibonacci retracement indicator by connecting the swing low to a swing high. The results is the main Fibonacci retracement levels.
Once the swing high is in place, the price action starts rotating back lower to partially return some of its gains, before eventually moving higher again. Depending on our cryptocurrency trading style and risk management, we identify one of the three levels to play against, with 38.2% being the most aggressive option and 61.8% the safest. Here, the first touch of the 61.8% retracement level, (the first highlighted ellipse), pushes the price back higher.
Another test of the 61.8% is much stronger as the bears try to breach this important level and push the price further lower. However, the strong support zone reacts again ultimately pushing the price higher almost to the previous swing high. We were provided with two trading opportunities in total. On both occasions, stop-loss orders should have been placed below 61.8%. Given the strength of this support, its breach usually translates into a quick trip to the next support level.
Trading Fibonacci extensions
Unlike retracements, we use Fibonacci extensions to identify the next levels of support or resistance once the main support/resistance is broken. To explain this strategy, we use the same chart but now we look at different elements of the price action.
Unlike the uptrend, we take a look at what happens once the major support, which is around 0.0466, is broken. As stated above, the breach of major support/resistance levels usually results in a strong move to the initial direction of the trend. Once this support level gets broken, we use the same swing lows and highs to calculate the next level of support.
In this case, the major levels to look for are: 127.2% and 161.8%. While the 161.8% again acts as a major extension level, 127.2% is often used as the first station to which the price heads following the breach of the initial support/resistance. The price chart above shows that the initial push lower (the first highlighted ellipse) results in the first test of the 127.2% zone. In a perfect manner, the price returns back to the previous support, now acting as a resistance, and rotates back lower to retest the 127.2% support once again.
Extensions can be traded in two different ways:
- Ride the trend once the major support is broken and place take profit orders just before 127.2% extension
- Use extensions as a potential bounce zone to initiate, in this case, buy orders against this level looking for a bounce. Similar to the previous strategy, this one offered at least two trading opportunities
One of the most popular trading indicators
The Fibonacci retracement and extension levels are one of the most popular trading indicators, used by traders to identify support and resistance levels. In this blog post, we briefly explained the two crypto trading strategies that offer clear risk and reward levels. Retracement levels do offer more levels to play against, with our focus being on the three central levels. Extensions, on the other hand, are mainly focused on two major levels, with the first one, 127.2%, being the safest bet.