Retracements and Correction

July 9

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Posted by: Olymp Trade,
 July 9, 2021

Minute Read

Retracements and Corrections

A correction, retracements and pullback are often referred to as the same thing when the price moves in the opposite direction of the main trend. This is a normal occurrence on the financial market when the price is either too high to attract more buyers and the market is overheated, and the asset is overbought. Likewise, when the price is too low to attract more sellers and the asset is oversold. To identify these levels, you can use a technical analysis tool called an oscillator.

What is the difference?

Pullback

If we are speaking about a pullback then this is generally referring to the stock market when the price reaches a new high or after a strong advance to the upside, the price pulls back for a short period of time. Usually, no more than a few trading sessions before the uptrend continues, traders and investors can use a pullback to get in at a profitable price. Pullbacks are often the result of traders collecting their profits after a strong move. 

Example

Let’s consider this example with “Starbucks” on Monday, November the 9th of 2020.

Retracements and Correction

It is the holiday season and on the previous Friday, November the 6th “Starbucks” launched their line of seasonal favorite drinks along with new holiday cups, food items, and gifts. Clearly, this was a positive factor for “Starbucks” and its business. On Monday, the price opened up with a gap the price reached actually August 2019. Resistance traders quickly collected their profit, and then we saw a pullback for two sessions before the price resumed its bullish movement.

Retracements

A retracements is very similar to a pullback, which is a short-term change in the main trend direction. We can observe a retracements on an up or a downtrend. 

Example

Retracement
Retracement

In this example on the AUD/CAD we are looking at the four-hour time frame. While the price is continually creating lower lows and lower highs, it has moments where it gravitates, in our case, towards the level of resistance before continuing its move down. 

  Remember during a downtrend you want to trade down from resistance and during an uptrend, you want to trade up from support.

Correction

If the price breaks a level of support or resistance. For example, your trend line, then what we are observing is a correction. The difference with a correction is that there is usually a change in the price of at least 10 or more. Correction can last for a few days to several weeks or even months during a uh during correction phases. In this case, we can use a  tool called Fibonacci Retracement.

Example (“Fibonacci Retracement”)

Correction
Correction

On a downtrend, you would connect the Fibonacci levels from the peak of the maximum to the low of the minimum.

Now we have identified levels of support and resistance where the price is, likely, to reach.

levels of support and resistance
levels of support and resistance

Read about Uncommon Tools – The Donchian Channel

Now we are observing that the price of the levels that we need to pay attention to is 0,236, 0,382, 0,5, and 0,618. The price can reach 23.6 and then start to continue to move back down.

If the price breaks above the 23.6 level, we can expect that the price will reach 38.2. At this level, the price can start moving back down, or it can advance up. If it breaks this level, it can reach 50.

What you have to remember is that if the price reaches and breaks 61.8 percent, then the previous trend has ended, and a new trend has begun.

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