Elliott Wave Theory is the idea that stocks and other tradable assets move in a series of repeating patterns. The concept was first introduced by Ralph Nelson Elliott in the 1930s and has since become a popular method of technical analysis among investors.
He studied annual, monthly, weekly, daily, and self-made charts for 75 years across various indicators. His theory became famous in 1935 when Elliott made an uncanny prediction about the bottom of the stock market and became a key prediction for thousands of portfolio managers.
Elliott Wave International is the largest independent financial analysis and market forecasting firm. Its models help to map probabilities for future market action.
Types of Elliott Wave Structures
Pulse wave:
- Impulse waves are waves 1,3 & 5. They always move in the trend and are usually momentum moves.
- You can know each impulse wave can be divided into 5 waves of lower degree.
Pulse measurements:
- Wave 2: Usually a 50%-78.6% retracement of wave 1
- Wave 3: Common extensions are 1.272, 1.618 (most common), 2.0, 2.618, 3.618
- Wave 4: Usually a 38.2%-50% retracement of wave 3
- Wave 5: Common extensions are 0.618 (most common), 1.0, 1.618
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Wave extension:
In most cases, a wave within an impulse will become an extended wave. Usually wave 3. Waves 1 and 5 are also likely to be extended. Extended waves can be identified through the sub-waves.
One way to identify extension waves early is to look at the number of sub-waves. If an impulse wave breaks the high of the previous wave but fails to reach its minimum target before a downward correction occurs, it could be the start of an extension wave.
Corrective wave:
- money is made or lost.
- The basic corrective pattern is usually 3 waves, labeled ABC.
Zig-Zag :
- Zig zags are the most common corrective waves and are broken down into a 5-3-5 pattern. Waves A & C will be impulsive in nature and wave B will be a 3-wave corrective pattern.
- In a zig-zag pattern, wave B typically retraces 50% to 61.8% of wave A… Wave C typically ends within a 1.0-1.27 extension of wave A.
Important information about Elliott wave structure
The Elliott wave method, with its impulse and corrective wave structures, provides traders with a powerful tool for predicting trends and reversal points. Here’s how to apply the Elliott wave structure to your trading effectively.
How to identify Elliott waves simply
Step 1: Elliott waves often appear in support and resistance zones. So in the first step, we identify the support/resistance zone.
In this example, we choose the D1 timeframe.
Step 2: Wait for the market to react and a new trend to form
- Breaking the previous reversal top and forming a reversal bottom is called a downtrend.
- The previous swing low must be broken and a higher high must be formed. Only then can we consider it an uptrend.
Step 3: Mark wave 1
We are ready to mark wave 1. This is the beginning of wave I and the appearance of waves 2,3.
Elliott five wave pattern (motive and correction)
In the Elliott wave structure, market prices alternate between an impulse or momentum phase and a correction phase on any trend scale. A set of 5 waves of lower degree. They alternate between a momentum and a correction character. Thus waves 1, 3, and 5 are impulses, while waves 2 and 4 are smaller retracements of waves 1 and 3.
- Waves 1, 3, and 5 are motive waves. Divided into 5 smaller degree impulses labeled as ((i)), ((ii)), ((iii)), ((iv)) and ((v)).
- Waves 2 and 4 are corrective waves. Subdivided into 3 smaller degree waves labeled ((a)), ((b)), and ((c)).
- The 5 waves moving in waves 1, 2, 3, 4, and 5 form a motive wave of a larger degree (1)
Divided into three smaller waves, denoted by ABC. A corrective wave begins with a counter-trend impulse of five waves (wave A), a retracement wave (wave B), and another impulse (wave C). Waves A, B, and C form a corrective wave of a larger degree (2).
In a bear market, the dominant trend is down, so the pattern is reversed – five waves down and three waves up.
Measuring Elliott Waves in Technical Analysis
Elliott Wave Degrees are an Elliott wave extensions language used to define cycles so that analysts can determine where the wave fits into the overall market movement. Elliott recognizes 9 wave degrees from the Grand Super Cycle degree typically found on the weekly and monthly timeframes. Up to the Subminuette degree found on the hourly timeframe.
Applying Elliott wave structure to trading
Elliott wave structure is a powerful technical analysis tool that helps investors and traders predict market trends and reversal points. Here are some important things you need to know about this structure:
How to draw Elliott waves on MT4
The MT4 platform has all the tools you need to mark your wave counts.
You can use those tools to mark up your Elliott wave structure. In the pop-up dialog, edit the text to what you want to appear on the chart.
You can also mark support and resistance zones with the shape tool. Also, click and drag your mouse on the chart area to draw your zones.
Your chart should look like the following example:
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Corrections in Elliott wave identification
Simple Edit:
The simplest pattern is the zigzag correction.
- A zig-zag correction is a three-wave pattern in which wave B does not retrace more than 75% of wave A.
- Wave C will make new lows below wave A.
- Wave A of a zig-zag correction always has a five-wave form.
Complex editing:
- A triple can be a zigzag or any flat, a triangle and the combination of those three patterns forms a complex correction and in this context is called an advanced Elliott wave.
- With double and triple zigzags, each simple correction pattern is labeled W, Y, and Z.
- The labeled X can be in the shape of any corrective pattern but the most common is a zigzag.
summary
Elliott wave structure provides a unique and profound insight into how financial markets work. By identifying wave patterns and predicting trends, this method provides traders with a powerful tool to forecast and optimize trading decisions. Continue to learn, practice, and apply Elliott wave knowledge through Crypto Trading articles to maximize the market’s potential and achieve success in your trading journey.
FAQs
What are the rules to follow when identifying waves in Elliott wave theory?
- Rule 1: Wave 2 never retraces beyond the starting point of wave 1.
- Rule 2: Wave 3 is never the shortest of the three impulse waves (1, 3, 5).
- Rule 3: Wave 4 never overlaps the price zone of Wave 1.
The benefits of using Elliott waves in market analysis?
- Helps identify major trends and reversal points effectively.
- Reflects investor psychology and behavior through wave patterns.
- You can be applied across multiple timeframes and asset classes.
What are the challenges when applying the Elliott wave method?
- Đòi hỏi nhiều kinh nghiệm và hiểu biết để áp dụng chính xác.
- Xác định sóng có thể chủ quan và dễ bị lỗi.
- Có thể bị ảnh hưởng bởi các yếu tố bên ngoài và biến động mạnh của thị trường.
