Fibonacci Theory in Stock Investments
Fibonacci patterns are based on mathematical patterns. Stock traders use the theory to help identify levels at which price changes can occur.
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History
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Thirteenth century Italian mathematician Leonardo Fibonacci discovered sequences and patterns of numbers that tended to repeat in nature. A society of mathematicians was formed in his name.
Mathematical Sequence
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0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, ...
In this illustration, the Fibonacci numbers are identified such that every one is the sum of the previous two. This pattern relationship is infinite.
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Ratios
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As the sequence progresses, it quickly develops a ratio of 0.618 when a number is compared to the next higher number. Conversely, the difference between a higher number and the next highest is approximately 38.2 percent.
Dividing a number by the previous number results in a ratio of 1.618r, considered the "golden ratio."
Market Application
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Stock prices have been found to behave in ways that parallel the key 38.2 and 61.8 percent measurements with respect to price advances and declines, and Fibonacci patterns are useful tools incorporated in technical analysis of stocks and commodities.
Rationale
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These patterns have occurred with enough frequency and reliability for it to have become a useful indicator. While unclear, it is believed that mass human behavior such as that found in large markets follows predictable patterns and creates reasonably recurring outcomes.
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