41-Trading the Golden Ratio

N I K K I M O R R

TRADING FOREX

You can apply this technique to forex pairs to

confrm price direction and anticipate when price

will reach a certain point.

he golden ratio to chart analysis is use-

ful, and you should try to incorporate it

within your strategy wherever possible.

In this article I want to discuss one simple

way of doing this. I will not go into much detail

here about the origins of the ratio, except to say

it has been used throughout written history and

perhaps before, and that it has been found within

architectural designs and construction methods

of the ancient Egyptian pyramids and the Greek

Parthenon and can be seen in the growth and form of

many plants. So it’s been around a while.

The golden ratio is certainly a number that has sig-

nicance in everyday life, even if we are not always

aware of it. And just like the early architects who took

the ratio from nature and applied it to their structures,

we as traders can take the natural occurrences of the

market and apply the same golden ratio to create our

own technical plan.

It is primarily the actions of the crowd that cre-

ate many of the well-known chart patterns, and as a

consequence of these patterns, there can be highly

emotional and distraught moments in the marketplace.

As a result, the response of these emotions can be

seen as reective of human nature, a response that is

heightened when faced with the prospect of a loss or

gain in the nancial markets. The markets are reec-

tive of human nature, and where natural occurrences

happen, so can the golden ratio appear. There are many

ways to use the golden ratio in the market, and here

is one of the simpler applications.

APPLYING IT

For the purposes of this article I will rst demon-

strate the signicance of this number by plotting the

ratios on a graph and then show how to use it in the

nancial markets.

If you take the ratio of two successive numbers

in the Fibonacci series (1, 1, 2, 3, 5, 8, 13, ...) and

divide each by the number before it, you will nd

the following series of numbers:

1/1 = 1. 2/1 = 2, 3/2 = 1.5, 5/3 =1.666…, 8/5

= 1.6, 13/8 = 1.625, 21/13 = 1.61538…

Plot these results on a graph and you can see the

ratios settle at a particular value, called the golden

ratio or the golden number (Figure 1). The value is

approximately phi, or 1.618034.

If you are familiar with Fibonacci ratios in market

analysis, you will know that 61.8% is seen as a key

level to determine whether the trend is corrective or

T

A Window Of Opportunity

Trading The Golden Ratio

by Gareth Burgess

P e r c e n

t a g e

Y-Values

Y-values

0 1 2 3 4 5 6 7 8 9

2.5

2

1.5

1

0.5

0

FIGURE 1: FIBONACCI SERIES. If you plot this series on a chart, you can see the ratios

settle at a particular value referred to as the golden number. The value is approximately phi

or 1.618034.

Copyright © Technical Analysis Inc.

Stocks & Commodities V. 29:9 (24-30): Trading The Golden Ratio by Gareth Burgess

a reversal. Surpassing 61.8% of the move usually signals a

change in the longer-term direction — that is, it changes the

bigger picture (Figure 2).

This is just one use of the golden ratio in market analysis.

There are other methods, such as projecting up or down once

a breakout has occurred. That method of projection can help

determine potential targets and is available on many chart

software packages. It is also a useful tool

for maintaining condence in a position

or positions that are showing a prot.

The signal, however, that I want to

discuss here not only projects a target

level but involves counting forward to

determine where the price action will

reach a key level. This technique also

involves nding a distinct and volatile

pattern on the chart. In a sense, it is

projecting but only to a certain level in

time, one that will become signicant

for either support or resistance and the

overall market direction.

This window of opportunity is applied

to the chart and incorporated within

your analysis like a pivot level used

to conrm continuation of the price

direction. But that’s not all. The signal

I will demonstrate can also determine

the expected time that the price will be

seen. Though not necessarily the most

important aspect of this technique, it has

the advantage of knowing when to return

to the market if you want to initiate a

position or control a position based on the signal generated by

applying this technique.

Before the golden ratio can be applied, which in itself is a

very straightforward process, a certain pattern must be found

within the price action. Usually, the pattern has been created

by some volatility, is most often seen on the charts as a type of

“V” pattern, and is known in the industry as a bullish V top or

bearish V bottom. For the technical use

of this pattern, however, it does not have

to be seen at the top or bottom of a trend;

simply appearing on the chart sparked by

some market volatility or news-related

event will do.

What is striking about this pattern is

that the spike displays a very balanced

market. It is one that I describe in my

book Trading And Investing In The Forex

Markets Using Chart Techniques. If you

look at the candlestick chart in Figure 3,

you will see that the market falls sharply,

only to bottom and then turn back up. This

move in the market is well displayed by

standard candlesticks that lead down to a

hammer candlestick, signaling a base —

hammering out a base — and eventually,

standard positive candlesticks lead the way

back up! This market condition is suitable

for entering positions without having to

worry about wild market swings.

This type of pattern is also seen on dif-

ferent time frames, however, and this is

FIGURE 2: SIGNIFICANCE OF PHI. On this 240-minute chart of the EUR/USD, you can see how the market continuesstraight through the 61.8% retracement level and changes the picture of the market direction. The market never lookedback once it passed this level.

FIGURE 3: HERE’S YOUR WINDOW OF OPPORTUNITY. GBP/USD brings new opportunity as investors with a longer-term horizon see the lower levels as an opportunity to enter the market.

TRADING FOREX

1.35500

1.35000

1.34500

1.34000

1.35000

1.33000

1.32500

1.32000

1.31500

1.31000

1.30500

1.30000

1.29500

1.29000

1.28500

1.28000

1,3439/100.0%

EUR/USD Spot

1,32194/61.8%

1,30869/38.2%

1,28742/0.0%

=61.8%

1,31502/50.0%

1.6000

1.5900

1.5800

1.5700

1.5600

1.5500

1.5400

1.5300

1.5200

1.5100

1.5000

1.4900

1.4800

1.4700

1.4600

1.4500

1.4400

1.4300

1.4200

1.4100

Big move brings new opportunity

GBP/USD SpotDaily

T E L E T R A D E R

P R O F E S S I O N A L



TRADING FOREX

the point you have to consider when applying the technique

— the larger the time frame, the more signicant the pat-

tern. A 15-minute chart showing this V pattern will see many

short-term traders get stopped out and many traders jumping

in on the opportunity, especially as the price action bases out,

forcing the price back up again. The longer-term time frame

such as the daily chart, however, has much more than just the

short-term market participants, and that is where the technique

of calculating forward using the golden ratio works best.

When a large V pattern is seen on the daily

chart, it is a sign the locals — that is, the

short-term participants — have not been able

to get control of the market. This is because

traders and investors with longer-term views

take control and the longer-term investors

on the sidelines will be forced into making a

decision. They will see the move as a poten-

tial opportunity to add to positions or enter

new positions. The more the market moves,

the more the participants will be attracted

to the market as well as the local short-term

participants, such as proprietary traders and

speculators.

YOUR WINDOW OF OPPORTUNITY

The big move seen on the British pound/US

dollar (GBP/USD) chart in Figure 3 sent many

traders running for the exit, while many other

traders would have viewed the lower levels

as an opportunity not to be missed. After

the market recovered to the point where it

originally sold off, the burning question every

trader and investor would have been asking is,

“Does this continue to move upward?”

With the application of the golden ratio, it is

possible to nd a key level on the daily chart

and use that day as a directional aid to help conrm a continu-

ation in the market price action or help you develop a market

entry strategy based on the daily chart support and resistance

levels. The calculation is as follows:

n Take the rst candlestick or bar seen as the start of the

move and the nal candlestick or bar of the move. The

V pattern will only become clear after the move has

taken place, but this is acceptable because there will

be enough time to make the calculations and project

forward.

n Then count the amount of days. For example, in Figure

4, there are 21 days.

Take this number and multiply it by the golden ratio (1.618).

Then add this number to the original number of days to reach

a projection day.

The Fibonacci retracement is one well-known technique,

and with good reason. This technique is more often than not

very accurate at nding the level where the market price action

will encounter important levels of supply or demand. It is these

levels that often cause the market to turn about in the face of

bearish or bullish news. Simply put, these are levels where the

risk/reward ratio changes and the market yields a window of

opportunity.

This is precisely what happens when you apply the golden

ratio and nd key days on the daily charts or key hours on the

shorter time frame (Figure 5). Each signal is a signal in its own

FIGURE 4: CONFIRMATION OF PRICE CONTINUATION. Here, GBP/USD finds perfect support at the previoushigh of the key day projected out using the golden number, 1.618. The window pivot levels should be applied withoverall market direction in mind.

1.58001.5700

1.5600

1.5500

1.5400

1.53001.5200

1.5100

1.5000

1.4900

1.4800

1.4700

1.4600

1.4500

1.4400

1.4300

1.4200

1.4100

1.4000

1.3900

1.3800

Start

21 days

movs (10, 0)

54 days

Key day support

Final day of selling = Tweezer candlestick pattern

21 days from start of selling to candlestick base

21 x 1.618 = 33 + 21 = 54

GBP/USD SpotDaily



right because it is the result of

previous buying and selling

— that is, the readjustment of

the market — and should only

be used once, though the high

or low from these key price

regions may continue to be

support or resistance for much

longer. Chances are there will be

another event where the number

can be applied.

DIFFERENT

TIME FRAMES

Tying the signal in with different

time frames will help you avoid

paralysis and should give you

a great advantage on market

direction, but keep in mind that the directional

bias you get from this signal will have a greater

effect in a trending market.

In Figure 6, there was a sharp decline in the

morning of March 31, 2011. The euro sold

off against the US dollar for 20 pips, which

is enough of a move on the ve-minute chart

to try applying the golden ratio and project-

ing out. Remember, the bigger the move, the

greater the number of positions in the market is

changing, and therefore, the better the reaction

will be further out when the key price level is

reached.

TRADING WITH THE TREND

Trading the direction of the market is important

when applying this technique. If the market is

strong enough and currently in an established

trend, the window should conrm the overall

market direction, either as support or as a

breakout in the direction of the market trend. See

examples of support in Figures 4, 7,

and 8.

For example, if the market failed at those

levels marked out in these gures, this could be a

warning that something is not right with the trend

and a neutral stance should be adopted until a

signal appears, conrming the market direction.

As with many other technical indicators and

techniques, the trend always dominates.

FIGURE 5: ADDING CONFIRMING INDICATORS. On this chart of GBP/USD, you can see that building on the chart by adding thesimple moving average improves the visual aspect of finding market direction.

FIGURE 6: APPLYING IT TO DIFFERENT TIME FRAMES. On this five-minute chart of the EUR/USD, you seea sharp decline in the euro. A distinct “V” pattern can be seen in the price history as the aftermath of sellingand buying. This type of market action can be used as a buying opportunity or a “buy the dips” strategy bymany traders.

Trading themarket directionis important whenapplying thistechnique.

Key day projected out

movs (10, 0)

Key day later becomes good support

Key day closes above the 10-day MA

GBP/USD SpotDaily

1.6040

1.5900

1.5800

1.5700

1.5600

1.5500

1.5400

1.5300

1.5200

1.5100

1.5000

1.4900

1.4800

1.4700

1.4600

1.4500

1.4400

1.4300

V-type pattern

EUR/USD Spot5 mins

1.41580

1.41560

1.41540

1.41520

1.41500

1.41480

1.41460

1.41440

1.41420

1.41400

1.41380

1.41360

1.41340

1.41320

1.41300

1.41280

1.41260

1.41240

1.41220

1.41200

1.41180

1.41160



TRADING PLAN

Entry strategy: The window in Figure 8

shows how the market nds support. At

this point, you can determine a buy level

at the top of the hammer-type candlestick

that has conrmed support at the base

of the window.

Smart stops: Identifying the correct

stop-loss level can save you from falling

into the trap of letting losses run. Chart

analysis is all about nding trade op-

portunities and levels to initiate trades.

If those trigger points are violated and

the market moves back through them,

that in itself is your stop-loss.

In Figure 8, the stop can be located

at the base of the window or just below

it. That allows a stop-loss of some 10

pips, which is fairly tight, and which

is then brought up to the trigger level,

once the market moves from that level.

The market should move away from the

support zone, or resistance zone in the

downtrend, quite quickly. If it does not,

that would be a cause for concern.

Gareth Burgess has more than 10 years’

experience in applying chart techniques

to investment analysis, creating technical

views and strategies for corporate-level

clients, and is a dedicated private inves-

tor. He is founder of the Chart Workshop

(www.chart-workshop.de), a provider of

technical views for investors. He can be

contacted by [email protected].

SUGGESTED READING

Burgess, G.A. [2011]. “Channels In The

Forex Markets,” Technical Analysis

of STOCKS & COMMODITIES, Volume

29: March.

_____ [2010]. “Forex Entry,” Technical

Analysis of STOCKS & COMMODITIES,

Volume 28: October.

_____ [2009]. “Utilising Conrmation

Techniques With Candlestick Chart-

ing,” Currency Trader.

_____ [2009]. Trading And Investing

In The Forex Markets Using Chart

Techniques, John Wiley & Sons.‡TeleTrader Professional

‡See Editorial Resource Index

FIGURE 7: TRADING WITH THE TREND. On this five-minute chart of EUR/USD, there is a window of opportunity projectedout using the golden number. This is an opportunity to create a very decisive entry and exit strategy.

FIGURE 8: MARKET FINDS SUPPORT. On this five-minute chart of EUR/USD, you see a clear entry strategy for a short-term position.

Key price region

This selling has 11 five-minute candles

11 x 1.618 = 17; 17 + 11 = 28

Support at the window

28 candles later

EUR/USD Spot5 mins

1.41810

1.41758

1.41700

1.41650

1.41600

1.41550

1.41500

1.41450

1.41400

1.41350

1.41300

1.41250

1.41200

Key price region

Support at the window

Entry point

Stop region

EUR/USD Spot5 mins

1.41850

1.417951.417761.41750

1.41700

1.41650

1.41600

1.41550

1.41500

1.41450

1.41400

1.41350

1.41300

1.41250

1.41200

movs (10, 0)

S&C

TRADING FOREX



Documents

41-Trading the Golden Ratio