Leonardo Pisa was a brilliant 12th century mathematician, who described the natural mathematical order inherent in a wide range of systems.
To over-simplify his work, one premise was that we can divide organic systems into segments of two-thirds and one-thirds (as to Harry’s point above). Specifically, he based his work on Fibonacci numbers, sequences, and ratios.
Over the years, scores of investors have adopted the relationships he identified, syncing themselves with the market’s wave-like moves.
I reference the technique often in my analyses. When I explained it in some detail last October, I showed how the 38.2% Fibonacci retracement helped investors join the bull market that began in March 2009. Here’s the chart I showed…
As the technique instructs, and to the point about the market’s need to inhale and exhale, after strong uptrends (the inhale), it’s wise to wait for a pullback (the exhale) before buying into the trend.
Fibonacci retracement levels give traders a useful way of estimating just how deep the pullback will be. The rule of thumb is that a pullback will retrace a minimum of 38.2% – about one-third – of the predominant trend.
Lucky for us, Fibonacci patterns recur frequently. Here’s a more recent example…
Despite the bearish commentary, 2013 started with a bang. By May, sidelined investors had missed the opportunity to grab 17% gains. That, of course, was the “inhale” phase.
True to form, the market couldn’t continue this rise without first letting off some steam. A move back down to the familiar 38.2% Fibonacci retracement level was sufficient to reinvigorate the trend. This gave investors too skittish to commit in January, the chance to join the uptrend.
This is another classic example of the market’s natural rhythm and a great way to profit from being in tune with it.