To recap, this was the chart I posted the previous Wednesday:
I asked what the likely path of least resistance was out of the wedge – in other words, was there a trade there?
By Friday, we had the answer – it was up, confirming the C wave labels that were only a possibility on the Wednesday.
And this was the result – a sharp rally in EUR/USD, which confounded many traders, because the Fed made a U-turn on rate rises and turned soft:
It is all very well guessing the direction correctly, but what a swing trader wants to know is how far a rally will likely carry following a great entry. That will provide a target where profits can be taken, of course.
And this is what I wrote: “But also, wave C is a Fibonacci 62% multiple of wave A at the 1.1310 area – and this is a very common wave relationship.”
By measuring the height of the A wave off its spiky low to its equally spiky high, I had my target for the extent of the rally – and that was just above the 1.13 level. Isn’t that a very simple and pretty method? Little guesswork is involved and you can set your exit orders up ahead of time. It has the added advantage of needing only a calculator, not fancy and expensive software.
To confirm that rally was a high, the market declined immediately.
So that sets up another small test – and a most beautiful example of how precise Fibonacci levels can be, and why Fibonacci is a trader’s best friend.
This is the hourly chart I captured at 3.30pm last Wednesday. It shows my A-B-C and the decline off the C wave high. Do you notice anything striking about this decline? It bears an uncanny similarity to the form of the B wave, doesn’t it? It has the same stair-step succession of overlapping mini-waves down, which is characteristic of a corrective move.
And because the B wave was a corrective wave to the one larger trend, which was up, odds favour a similar result if the market can punch up above the blue trendline.
But what is the likely turning level for this current dip? This is where use of the Fibonacci method shines.
Here is the chart updated to Monday:
Measuring the height from the spike 1.822 low to the C wave high at 1.1342, I have a rise of 0.0246 cents.
Applying an accurate Fibonacci 38.2% retrace to this figure, I get a target at 1.1143 – which is an amazing one tick away from the actual recorded 1.1144.
To me, that is a perfect hit – and a beautiful validation of the Fibonacci method.
Of course, I evaluated this target long before the market had hit it, which allowed me to place a resting buy order at that level. In practice, I like to give it ten pips or so inside the target to allow for a possible slight under-hit. I don’t want to miss a potential good trade, because I was too stingy on the target.
Of course, there is no guarantee that this will be a major winner (much depends on how I handle the trade). What it does offer is a low-risk possibility, because I could set my protective stop only 20 pips beneath. And in the hyperactive currency markets, that is wafer-thin.
And with a grateful nod to Yellen’s uber-dovish comments yesterday, EUR/USD shot up with this result:
Yesterday’s rally surely shocked many traders who were expecting the dollar to remain strong. Just as in the red A and C waves, much of the buying was by dollar-long traders caught in a short squeeze.
These long-dollar traders evidently take the confusing Fed utterances at face value – a very dangerous game.
So now the picture has changed somewhat. The strong rally is testing the old high and if it can punch above it, it would set up the larger purple A-B-C labels.
Now I have a long trade working, I have a tough decision to make – when to take profits. There is an old market saying that getting into a trade is relatively easy – it is in the getting out that is difficult.