What are Elliott waves?
Definition and origin of the theory
Elliott waves are a method of technical analysis that seeks to predict financial market movements. This theory was developed by Ralph Nelson Elliott in the 1930s, after observing repetitive patterns in asset prices.
Elliott noticed that the market moved in predictable cycles, influenced by the mass psychology of investors. His vision revolutionized the way many traders analyze charts.
Fundamental principles
The theory is based on the idea that prices oscillate between upward impulses and downward reversals. These movements form fractal patterns, which are repeated on different time scales.
A key concept is that the market does not move in a straight line, but in "waves" that reflect the sentiment of participants.
Elliott wave structure
The 5 impulsive waves
The core of the theory is the 5 impulse waves, which mark the main direction of the market:
- Start of the movement
- Partial backward movement
- Stronger progress
- New setback
- Final impulse
The 3 corrective waves
After the impulsive movement, 3 corrective waves follow:
A. Initial rebound
B. Partial rebound
C. Final fall
Complete 8-wave cycle
The complete pattern consists of 8 waves: 5 impulsive and 3 corrective. This cycle repeats constantly, forming larger structures or subdividing into smaller patterns.
How to identify Elliott waves
Characteristics of each wave
Each wave has distinctive features:
- Wave 1: It is usually weak and uncertain.
- Wave 2: Backs up, but does not exceed the beginning of wave 1.
- Wave 3: Generally the strongest and most extensive.
- Wave 4: Forms a lateral correction or zigzag (fast and volatile).
- Wave 5: Shows divergences and lower strength
Basic rules for wave counting
Some guidelines for counting waves correctly:
- Wave 2 never goes back beyond the beginning of wave 1.
- Wave 3 cannot be the shortest
- Wave 4 does not overlap with the territory of wave 1.
Practical application of Elliott waves in trading
Entry and exit strategies
Traders use waves to:
- Entering the start of a new impulsive wave
- Exit near the end of wave 5
- Trading counter-trend in corrective waves
Risk management with Elliott waves
Wavelet analysis helps to:
- Set stop-loss at key levels
- Adjust the size of the position according to the waveform
- Anticipate reversals and protect profits
Relationship between Elliott and Fibonacci waves
Fibonacci Retracements in Waves
Fibonacci levels (38.2%, 50%, 61.8%) usually coincide with the retracements of waves 2 and 4.
Extensions and projections
Fibonacci extensions (161.8%, 261.8%) help project wave 3 and wave 5 targets.
Combining Elliott waves with other indicators
Complementary technical indicators
Many traders combine waves with:
- RSI to confirm divergences
- MACD to measure momentum
- Bollinger Bands to identify volatility
Use of chart patterns
Classic patterns such as triangles, flags and wedges often form within Elliott waves, reinforcing the analysis.
Frequently asked questions about Elliott waves
What happens after the 5 Elliott waves?
After the completion of the 5 impulse waves, a new 3-wave corrective cycle begins in the opposite direction.
What does Elliott wave 4 look like?
Wave 4 is usually a complex correction, often in the form of a triangle or sideways movement.
How to learn to recognize Elliott waves?
Practice is essential. Study historical charts, draw waves and compare your analysis with other experienced traders.
Common mistakes when using Elliott waves
Incorrect interpretation of waves
Many novices confuse corrective waves with impulsive waves or miscount subdivisions.
Over-adjustment of the analysis
Some traders force wave counting to fit their view of the market, ignoring contrary evidence.
Resources to go deeper into Elliott waves
Recommended books
- Frost and Prechter's "Elliott Wave Principle".
- Glenn Neely's "Mastering Elliott Wave".
Courses and advanced training
Several platforms offer specialized courses in Elliott waves, from basic to advanced level.
Conclusions and final considerations
Advantages and limitations of the theory
Elliott waves provide a framework for understanding market psychology and anticipating movements. However, their interpretation is subjective and requires experience.
Integration into a complete trading strategy
Elliott waves are a powerful tool and sound risk management to create a robust strategy.
