Significance of Long-term Analysis and Inflection Points

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In this post I will outline how identifying long-term support/resistance levels and major inflection points using Fibonacci confluence zones can prove to be one of the most reliable predictor or the next move.

Significant support and resistance levels are bread and butter for traders. Executing positions around “significant” levels minimizes the likelihood of getting whipsawed, and therefore, often prove profitable. My first step in conducting any analysis is to identify major support and resistance levels on a long-term chart.

Long-term Analysis

The goal is to identify “significant” support and resistance levels by first analyzing long-term charts. The longer the horizon, the better will be the analysis. The significance of a support or resistance level increases with the time the level has remained intact and with the number of times the prices have tested this level and not significantly penetrated* it. Following are the type of charts I begin with.

10-year Monthly Chart
5-year Weekly Chart
2-year Daily Chart

The implications of long-term analysis are straightforward. For instance, if price is at a support level that has been tested 3 times but not penetrated in the last 10 years, then a bounce off of this level will signal a buy opportunity. On the contrary, a penetration below this significant support level will have major bearish implications (ignoring the likelihood of trader’s remorse).

Figure 1


Identify Major Inflection Points

Fibonacci studies are an excellent tool to identify major inflection points. When used in conjunction with trend lines, chart patterns, volume analysis, and technical indicators, an analyst can identify significant inflection points and earn greater risk-adjusted returns. The heuristic in determining the significance/strength of a particular inflection point is as follows:

The inflection point increases in significance/strength with every increasing factor coinciding at the point.
Furthermore, inflection points increase in significance as the periodicity increases. For instance, an inflection point on a monthly chart is more significant than one on a daily chart.

Example:

Inflection Point 1
61.8% Confluence Zone
Down Trend Line
Major Resistance
Overbought Oscillators
Momentum Divergence
Low Volume

Inflection Point 2
61.8% Confluence Zone
Down Trend Line
Major Resistance
Overbought Oscillators

In this case, clearly Inflection point 1 is stronger as it has 6 factors coinciding together as opposed to 4 factors for Inflection Point 2. Observe the circled inflection points in Figure 2 below.

The RED CIRCLE inflection point is when the 61.8% retracement level and the significant support level identified in Figure 1 coincide. Therefore, an analyst who would be aware of the major support level (current resistance- once a support is penetrated, it changes role to being a resistance level) at ~101, would be wary of this major inflection point and of USD/JPY ability to penetrate above this level.

By identifying inflection points, a trader is more likely to execute trades with better risk-reward ratios. As shown in Figure 2, such inflection points are evident on intermediate-term charts as well.

Conclusion

1. Identify major support and resistance levels on long-term charts.
2. Conduct Fibonacci Studies. 61.8% confluence zone is a major level as it is considered to be the Golden Ratio. But be careful around the other levels as well as prices tend to retrace 3/8-4/8 of its previous move.
3. Conduct other technical analysis such as identify chart patterns, trends, and technical indicators.
4. Identify the major inflection points.
5. Determine the strength of inflection points. If a resisting inflection point is significantly strong, then a penetration above this level is on weak grounds. Prepare for shorts. Even if price penetrates above this resisting inflection point, then it may be a whipsaw. That is why, don’t buy the initial penetration. But buy the return move with a tight stop below the resisting level.

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*The two filters to identify a significant penetration of a support/resistance are
2-period Filter: two consecutive closes beyond the support/resistance level. For instance, a valid penetration on a 10-year Monthly (Daily) Chart will be 2 consecutive ‘monthly’ (daily) closes beyond a certain level.
Percentage Filter: A certain percentage point beyond a support/resistance level. Consider your risk tolerance to determine the percentage.


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Sanjeet Parab

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