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ELLIOTT WAVES
The Elliott waves principle is a system of empirically derived rules for interpreting action in the markets. Elliott pointed out that the market unfolds
according to a basic rhythm or pattern of five waves in the direction of the trend at one larger scale and three waves against that trend.
In a rising market, this five wave/three-wave pattern forms one complete bull market/bear market cycle of eight waves. The five-wave upward movement
as a whole is referred to as an impulse wave, and the three-wave countertrend movement is described as a corrective wave (See Figure EW.1). Within the
five-wave bull move, waves 1, 3 and 5 are themselves impulse waves, subdividing into five waves of smaller scale; while waves 2 and 4 are corrective
waves, subdividing into three smaller waves each. As shown in Figure EW.1, subwaves of impulse sequences are labeled with numbers, while subwaves of
corrections are labeled with letters.
Figure EW.1 The basic Elliott Wave pattern
Following the cycle shown in the illustration, a second five-wave upside movement begins, followed by another three-wave correction,
followed by one more five-wave up move. This sequence of movements constitutes a five-wave impulse pattern at one larger degree of trend, and a
three-wave corrective movement at the same scale must follow. Figure EW.2 shows this larger-scale pattern in detail.
As the illustration shows, waves of any degree in any series can be subdivided and resubdivided into waves of smaller degree or expanded into waves
of larger degree.
Figure EW.2 The larger pattern in detail
The following rules are applicable to the interpretation of Elliott Waves:
1. A second wave may never retrace more than 100
percent of a first wave; for example, in a bull market, the low of the second wave may not go below the beginning of the first wave.
2. The third wave is never the shortest wave in an impulse sequence; often, it is the longest.
3. A fourth wave can never enter the price range of a first wave, except in one specific type of wave pattern, the form of market movements is
essentially the same, irrespective of the size or duration of the movements.
Furthermore, smaller-scale movements link up to create larger-scale movements possessing the same basic form.
Conversely, large-scale movements consist of smaller-scale subdivisions with which they share a geometric similarity.
Because these movements link up in increments of five waves and three waves, they generate sequences of numbers that the analyst
can use (along with the rules of wave formation) to help identify the current state of pattern development.
As the market swings of any degree tend to move more easily with the trend of one larger degree than against it, corrective waves often are difficult
to interpret precisely until they are finished. Thus, the terminations of corrective waves are less predictable than those of impulse waves, and the
wave analyst must exercise greater caution when the market is in a meandering, corrective mood than when prices are in a clearly impulsive trend.
Moreover, while only three main types of impulse wave exist, there much more basic corrective wave patterns, and they can link up to form extended
corrections of great complexity. A most important thing to remember about corrections is that only impulse waves can be “fives”. Thus, an initial
five-wave movement against the larger trend is never a complete correction, but only part of it.
Trading the forex market using the Elliott Wave theory is an option. Monika and Vanessa do not use this method at all as they believe there are much simpler and more accurate methods of predicting price behavior. For anyone that would like to research this subject in more details we suggest visiting the elliottwave.com web site.
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