Everything in the market seems to go in cycles. You probably noticed on Wednesday’s trend day that I said my techniques of using trendlines and Fibonacci retracements didn’t work as well as usual. But I expect this to happen several times a month, and have developed my trend day pattern to compensate for it.
After a trend day, we normally get a consolidation, and once again I slightly change my tactics. And with patience, we’ll get back to a day like this where trendlines and Fibonacci are again in rhythm with the markets. We started with a gap up, and even though I didn’t trade near the opening, it was following familiar patterns.
The distance from point #1 to #2 turned precisely at the 1.618 Fibonacci ratio based on the distance from yesterday’s high to point #1. I would have taken a divergence there, but it didn’t happen. Remember that 168% retracements will often reverse the market if the 127% level is passed.
Now look at the pullbacks on the way down. These are the numbers you should expect in a well-structured move. The first pullback (green arrow) is .618 of the drop from #2. Many are still expecting that we will go up at this point, so much of the drop is retraced with late buying.
The next green arrow shows a 38% retracement of the second move. This time more traders are worried that the direction may be down instead of up, so the pullback is a smaller percentage than the first. Again a more normal situation than we’ve had the last two days.
But what about trading. By now you should know I require more than Fib numbers to take a trade, so let’s look at the trendlines. At 7:30 (Pacific) you can draw the lower blue trendline and the upper parallel. Price comes back to the upper line, hits the 38% Fibonacci level and can’t get through the blue moving average. Short setup at #3.
Where are we going. The short moving average isn’t seriously challenged until the bottom where there is a nice exit. How many reasons do we have for a reversal? The exact bottom is a 127% retracement of the move from #1 to #2. The drop from #3 to the bottom exactly matches the distance of the second move down — a Measured Move. And the Stochastic indicator gives a clear divergence with price. Time to think up for a while.
The same setup occurs in the afternoon, where you can draw the top yellow trendline after the two peaks form. Put in a parallel, match it with a 50% Fibonacci retracement, and get some added assurance as the Stochastic ticks the oversold level. Not too much range today, but the market is back in gear.
