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What's really behind fib levels?

  • Post #1
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  • First Post: May 4, 2006 11:56pm May 4, 2006 11:56pm
I've been looking at how fib levels work. Sometimes they work, sometimes not. I know the Fibonacci Sequence is related to the Golden Ratio. I'm somewhat of a mathematician, and did some searching for what this stuff really means in terms of prices going up and down. I've come to some tentative conclusions:

The Golden Ratio is sort of a borderline between linear, polynomial, and exponentiel growth. It is useful as a boundary on growth rate.

The 61.8 fib level represents the inverse of the Golden Ratio and is the only fib level that really applies to growth. It represents "room to grow", the space in which something most efficiently expands as it tries to grow exponentially in linear steps over time. It is the size of a sprout compared to the size of a seed.

In terms of a market, growth and expansion have nothing to do with price, only volatility. Fib levels only apply to periods of volatility expansion.

The period of volitility expansion is officially over as soon as the 61.8 is broken. Price then returns to linear change over time.

None of this says anything about which direction price is going, just how fast it's changing. However, if price isn't going in a certain direction, fib levels are useless anyway.

I think I've come up with a different way of thinking about a tool many of us have been using mindlessly for quite a while. I'm starting to think that all success in trading is based on how volatility is handled, and this might be a big clue.

I've got some ideas about how to apply this practically, but I'd like to see some counterexamples. Show me a chart where volatility expands and goes sky high, then down through a 61.8 level, and volatility then doesn't quiet down for a while.
Quoting Mike Jolley
I've been looking at how fib levels work. Sometimes they work, sometimes not. I know the Fibonacci Sequence is related to the Golden Ratio. I'm somewhat of a mathematician, and did some searching for what this stuff really means in terms of prices going up and down. I've come to some tentative conclusions:

The Golden Ratio is sort of a borderline between linear, polynomial, and exponentiel growth. It is useful as a boundary on growth rate.

The 61.8 fib level represents the inverse of the Golden Ratio and is the only fib level that really applies to growth. It represents "room to grow", the space in which something most efficiently expands as it tries to grow exponentially in linear steps over time. It is the size of a sprout compared to the size of a seed.

In terms of a market, growth and expansion have nothing to do with price, only volatility. Fib levels only apply to periods of volatility expansion.

The period of volitility expansion is officially over as soon as the 61.8 is broken. Price then returns to linear change over time.

None of this says anything about which direction price is going, just how fast it's changing. However, if price isn't going in a certain direction, fib levels are useless anyway.

I think I've come up with a different way of thinking about a tool many of us have been using mindlessly for quite a while. I'm starting to think that all success in trading is based on how volatility is handled, and this might be a big clue.

I've got some ideas about how to apply this practically, but I'd like to see some counterexamples. Show me a chart where volatility expands and goes sky high, then down through a 61.8 level, and volatility then doesn't quiet down for a while.
Great post Mike! I don't have an example for you. But I am interested in hearing more of your thoughts on this.

Here's a "golden ratio" tidbit! If you take a woman's height and divide it by the distance her belly button is above the ground and then take the average of this ratio for a large set of women, it comes out very close to the golden ratio. For some reason, this doesn't work on men.

Dial
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And once again we have proof why Forex Factory is the leader in FX forums Nice topic diallist, and you are right, fibonacci is followed blindly by most (yep including me at times) without any true understanding.

Your 61.8 theory of growth is interesting. Would I be correct in interpreting that as beeing the same as the 161.8 expansion level? If so .. then I agree with you whole heartedly as that level is a key component of my trading system.
You can quit and they won't care, but you will always know.
Quoting diallist
If you take a woman's height and divide it by the distance her belly button is above the ground and then take the average of this ratio for a large set of women, it comes out very close to the golden ratio. For some reason, this doesn't work on men.

Dial
So a woman's navel is nearer or farther to the ground than a man's? They're both close to 50%. Numerology in action.
Quoting Akuma99
And once again we have proof why Forex Factory is the leader in FX forums Nice topic diallist, and you are right, fibonacci is followed blindly by most (yep including me at times) without any true understanding.

Your 61.8 theory of growth is interesting. Would I be correct in interpreting that as beeing the same as the 161.8 expansion level? If so .. then I agree with you whole heartedly as that level is a key component of my trading system.
Thanks for the credit Akuma, but it rightly belongs to Mike as it is his thread.

Dial
sxaxlxvxaxtxixoxnxbxyxgxrxaxcxexdxoxtxoxrxgx
hehe oops ... well credit all round then .. hey it comes free .. sorry Mike
You can quit and they won't care, but you will always know.
Quoting Mike Jolley
So a woman's navel is nearer or farther to the ground than a man's? They're both close to 50%. Numerology in action.
Most women's navels are closer to the ground than most men's. Women are shorter!

Here's one for you. I'm sure everyone has noticed that when geese are flying in a "V" formation that one leg of the "V" is always longer than the other. Can you tell me why?

Dial
sxaxlxvxaxtxixoxnxbxyxgxrxaxcxexdxoxtxoxrxgx



I can tell you. There are more geese on one side than the other.
JOHN 3:16
Quoting Akuma99
And once again we have proof why Forex Factory is the leader in FX forums Nice topic diallist, and you are right, fibonacci is followed blindly by most (yep including me at times) without any true understanding.

Your 61.8 theory of growth is interesting. Would I be correct in interpreting that as beeing the same as the 161.8 expansion level? If so .. then I agree with you whole heartedly as that level is a key component of my trading system.
Actually it was me, not dial, who started this

I haven't really looked into expansion levels but maybe that's where I should have started. I'd like to get some details out of the way

The math name of the golden ratio is "Phi" and the number is 1.618 or so. So let's just call it phi.

The main property of phi that no other number has is that:

1/phi = 1-phi

This is the number that joins linear and polynomial growth. Try it with the inverse, which is 0.618. This is a pair of numbers, not just one number. 0.618 has the property that:

1/0.618 = 1+0.618

Play with these numbers on your calculator.

Thiis is both the additive and multiplicative inverse of Phi, and it's just as important. The only number which is its own additive inverse is zero. Only zero and one are multiplicative inverses of themselves. Other than Phi and 1/Phi, that is.

Phi has a ton of cool properties that makes it behave like an interger even though it's not.

It's up there with pi and e in terms of the most interesting mathematical constants.

Having said all this, 161.8 is a good number for an expansion level. It represents Phi, which is 1.618 or so.

My main point was that we're not understanding why this stuff works. Is it purely numerology and psychology, or is it really related to forces limiting change over time?

I think I've found that price can't break that critical level and then continue to expand. It can still move at a constant rate, it just can't expand anymore, until another breakout occurs.
Quoting renasdad



I can tell you. There are more geese on one side than the other.
Spontaneous symmetry-breaking with hive mentality.
Quoting Akuma99
hehe oops ... well credit all round then .. hey it comes free .. sorry Mike
Yeah it looked like it was dial's post because he was the first responder. No problem man. I really want to hear how you've been successful and unsuccessful using fib levels because I've got a big theory going. I want to see some charts too
Remembering what Darkstar said recently about the underlying market forces which move the price to take out stops and defend option levels, perhaps the reason why prices appear to react at Fibo levels is nothing to do with the magic of Fibo numbers, but long ago traders started to use these levels and so stops and entries and things have been set near these levels and knowing this, the big guys maniuplate the prices near these levels and so we now all think that Fibo numbers are magic. Perhaps they are, but for an entirely different reason that being magic.

Just a thought.
Quoting Flyn
Remembering what Darkstar said recently about the underlying market forces which move the price to take out stops and defend option levels, perhaps the reason why prices appear to react at Fibo levels is nothing to do with the magic of Fibo numbers, but long ago traders started to use these levels and so stops and entries and things have been set near these levels and knowing this, the big guys maniuplate the prices near these levels and so we now all think that Fibo numbers are magic. Perhaps they are, but for an entirely different reason that being magic.

Just a thought.
Yet prices clearly react to fib levels on all time frames. It might be mass hysteria, but there is a mathematical basis. I'm thinking only the one level has predictive power, and only if it's actually broken. Then again, if price gets near the level and quickly moves away, I might consider that a continuation of both volatility and price change.

Have I come up with something new, or something forgotten? The people who first started the fib level stuff -- What was their basis in fact and theory?
I hear the counter-argument constantly about fibonacci numbers that they are in essence just a self fulfilling prophecy and actually has nothing to do with the mathematical basis behind the numbers at all. The 50.0 level is an example of that, from what I understand this is not a fibonacci level at all yet is respected constantly.

Here is my point though, it is true im sure that fibonacci levels are more powerful due to the fact that so many follow them, hence validating them. Essentially I could assign a Akuma sequence of 1,5,33,2,34 and claim that it has some underlying mathematical meaning from the egyption pyramids, and if enough people believe it, then we start seeing price reacting to the levels, however if I did do that tomorrow, do you think anyone would follow? .. of course not, as when most people are told something, they will check the chart for the last few days minimum, see if anything happened at those levels and make their decision accordingly. A week of losing trades and it would be in the bin quicker than I could type the numbers in the first place.

Obviously the fibonacci sequence was introduced at some point into the trading arena, would they not have followed the same path as the Akuma sequence if there was no foundation to them at the time of introduction?

Mike seems to be coming at it from a slightly different angle, which is exactly what can give a trader the edge they need. More power to you ... can I come along for the ride?
You can quit and they won't care, but you will always know.
Since so many of the market participants use key fib levels, that must make the levels worth noting, even if they do not work for mathematical reasons.

My understanding is that 38.2% and 50% offer a good chance of hesitation or bounce, especially when combined with another reason in that price zone. Also that if 61.8% get broken that is a good sign that the move is over and there is a reversal potential.

Here is a good fib primer:

http://www.enthios.com/Lessons/Tradi...acciPrimer.htm

So what is the answer to the comment about geese flying above ?
Quoting hagadol
Since so many of the market participants use key fib levels, that must make the levels worth noting, even if they do not work for mathematical reasons.
I totally agree that some things work just because other people use them. I'm willing to use "fads" but only if I understand where they came from. Trendlines and moving averages, for example, are "fads", but they will never go away, so I use them constantly. Actually with MAs I've decided that doing math in terms of MAs makes the math simpler than doing the math in terms of just price change. It's like defining a sphere in polar versus XYZ coordinates. This idea supports the notion that price tends to trend and not easily return to recent levels.
Quoting hagadol
My understanding is that 38.2% and 50% offer a good chance of hesitation or bounce, especially when combined with another reason in that price zone. Also that if 61.8% get broken that is a good sign that the move is over and there is a reversal potential.
Ah, so people have discovered the disempowering effect of the 61 break on the speed of price motion. I'm still wondering if people have figured out if it only applies to volatility expansion, or if psychological effects are enough to make the knowledge useless, or whatever.

Here's what I understand. The 61.8 is the level that is required for expansion. It contains volatility. The 38 is the same thing, but from the other direction. The 50 is the average of the two. If price bounces off the 50, it's a signal that the 61.8 is not needed for further expansion.
Quoting hagadol
So what is the answer to the comment about geese flying above ?
I don't know what that had to do with anything, but my best answer was "hive mind" behavior among geese. They happen to be highly distributed geographically, so when they join the formation, they join whichever side is closer. It doesn't matter, as long as the overall triangle formation is maintained, which represents a signal to any geese still on the ground.
  • Post #17
  • Quote
  • Edited 6:31am May 5, 2006 5:38am | Edited 6:31am
If I recall the short side of the geese formation is one side of the 'golden ratio' to the longer side, or some such thing. Reading "Fibonacci Appliations and Strategies for Traders" by Robert Fischer is an great way to spend an evening.

I am on the side that believes that the fibs work because the markets are ultimately made up of people. People are always looking for order and fibs show 'natural order'.

I think that they should be used to help confirm your trade, not as a basis of the trade. A contrarian view on them can help you avoid common stop loss areas. Momentum as it crosses 61.8 is, to me, more important than the fact that it crossed.
In trading, there is no bullshit. You either make money or you don't.
  • Post #18
  • Quote
  • Edited 12:50pm May 5, 2006 7:10am | Edited 12:50pm
Intersting Fib Article (Attached)
Attached File(s)
File Type: pdf S & C - Using Fibonacci Ratios And Momentum.pdf   359 KB | 687 downloads
The Truth About Fibonacci Trading (Attached)
Attached File(s)
File Type: pdf Poulos, Bill - The Truth About Fibonacci Trading.pdf   395 KB | 509 downloads
Nice article Hagadol... Thanks

Quoting hagadol
The Truth About Fibonacci Trading (Attached)
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