A characteristic of a healthy bull market is that it makes higher-highs and higher-lows. This indicates a continual upward shift in expectations and the supply/demand lines. With the help of a unique technique called percent Retracement, you can measure the amount that prices retreat following a higher-high. You can measure the percentage that prices “retraced” from the high to the low.
Consider an example that if a stock moves from a low of 50 to a high of 100 and then retraces to 75, the move from 100 to 75 retraced 50% of the original move from 50 to 100.
Measuring the percent retracement can be helpful when determining the price levels at which prices will reverse and continue upward. When prices retrace up to 33% of the original move then there is a bull market. It is not uncommon for prices to retrace up to 50%. You must keep in mind that the retracements of more than 66% almost always indicate that this is an end to the bull market.
Large numbers of investors consider that the similarities between 33%, 50%, and 66% are important. Similarly, the Fibonacci numbers of 38.2%, 50%, and 61.8% are significant. These investors will use Fibonacci Levels to view retracement levels.
A retracement can be explained as an impermanent reversal in the opposite direction of the price of a stock that goes against the existing trend. When the price of stocks are gathered and presented generally in an upward direction. Then the small dips in opposite direction experienced by the stock price in the chart are called retracement. There is the difference between retracement and reversal in the chart. Retracements are small dips or u-turns of the trend whereas the reversals are the long turns ending the present trend of the market and representing the beginning of a new trend of stock prices.
When the retracement first begins, the technical analyst gets confused and for them, it becomes difficult to differentiate between reversal and retracement. However, technically both the terms can be differentiated. Retracements are the minor changes in the price of stock within a longer trend. The reversals are the end of long-term changes of stock price and the beginning of a new trend. The technical analysts differentiate between the retracement and reversals by using Fibonacci retracement.
Fibonacci retracement is the method of analyzing technically the support and resistance levels. Fibonacci retracement uses horizontal lines to represents the areas of support and resistance.