Whether you love waves, hate waves, or use the theory at occasion, fact is that the Fibonacci tool offers a high level of synergy with the Elliott Wave Theory.
The two go hand in hand and really reinforce each other very neatly. Obviously you can use the Fibs as well without waves when applying it on candle or a natural swing and it could work perfectly fine.
But if a trader does use the Fib tool with at least some notion of the waves in mind, the effectiveness of the Fib will also increase in the long-run after gaining sufficient experience.
The concept is that Fib levels will have a higher chance of being respected depending on the most likely wave count at the time. Wave counts are never 100% sure, but that is the nature of the market and especially the Forex market. Not a single trade is ever a guaranteed winner (or loser). It is better to see wave counting as a probability rating.
Fibs work wonderful when price is trending so logically they do very well in waves 1, 3 and 5, which are the impulsive waves. Here is a summary of what occurs on average most often:
The first wave often is limited by the swing in the opposite direction. When I place a Fib on that opposite swing I usually look for a movement to the 78.6% or 88.6% Fib as a typical target.
Wave 1-2 retracement: 61.8%, 78.6%, 88.6% Fibs.
A wave 1 swing will find a retracement by wave 2 which often is deep and retraces back to the 61.8%, 78.6% or 88.6% Fibonacci levels. The deeper Fibs offer a great benefit as the reward to risk ratio can be high especially when a strong wave 3 develops after it.
The wave 3 should accelerate at least to the 161.8% Fibonacci level of wave 1, otherwise if it falls short of that target then the wave 3 is most likely a wave C. Waves 3 can extend further as well, even up to 200%, 261.8% and 423.6% if price is really impulsive.
A wave 3 will typically be the strongest and longest wave. The wave 4 correction of the wave 3 is often shallow. It’s a consolidation zone that is flat, sideways and long in time.
A wave 5 will often be equal to wave 1 or go to a ‘smaller’ target like the -0.272 and -0.618.
The Fibonacci levels can also work well in certain speedy corrections and momentum.
A wave B will often retrace to a medium Fib before making 1 more corrective leg as part of wave C. The ABC zigzag correction is impulsive and corrects quickly.
When trading the wave C I place the Fibonacci tool on the wave A and aim for the -0.272 or -61.8 targets. Whether I choose the shallower one or the deeper target, depends on other market factors like chart confluence. Sometimes I aim for the deeper target but take a market exit at an earlier moment if the price action is showing signs of struggle.
The WXY corrections are zones with higher volatility which retest and sometimes break support and resistance zones. Fib levels work best in trending environments so be cautious when using Fib levels in corrective zones. In contracting triangles however price does often respect the deeper Fibs like 61.8%, 78.6% and 88.6% Fibs. But in a WXY flat correction price is not stopping at the Fib levels and it will often challenge the top and bottom. In fact in some cases such an expanding wedge or a “running flat” price is expected to break the top or bottom and can goes as far as the 138.2 level.
Remember, making the most accurate wave prediction on the planet is not the goal. Just like with trading it is more useful to judge the probability of a wave count and deem whether using Fibs in combination with the wave count is a winning proposition.
Before leaving, make sure to read our entire Fibonacci series!