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Fibonacci Extension, available on most trading platform, is a derivative of Fibonacci retracement and is price levels created by tracking a price’s primary move and its retracement. The resulting price levels that are drawn on the chart represent potential support and resistance in the subsequent movement. In this way, it can help establish profit targets on trend trades or alert a trader to where potential trend reversal areas could develop.
In an upward trending, the price action will sometimes temporarily move counter to the trend. In the period of pullback or retracement, Once this counter move is exhausted, price resumes back in the direction of the primary trend and often times will break to new highs. In this case, Fibonacci extension can be applied in the chart.
Chart 1 shows the example when we use this tool to help set some profit targets (0.236, 0.382 and 0.5), seen as resistance level, in the EUR/USD daily chart after retracement. Any successful breakout may lead to the next level of profit target. Moreover, those levels can also be seen as support levels when it pullbacks.
On the other hand, for investors who are looking for sell short, the price levels created by Fib extension are in the same use in a downward trending.