Elliott Wave Theory is a trading market theory proposed by RN Elliott in the year 1939 who believed that markets has eight waves and these waves could be useful in predicting the market direction. The Elliott Wave theory states that the currency prices are controlled by the market cycles and these market cycles are founded using the Fibonacci series. A complete Forex market cycle contains eight waves in which five waves are in the trend direction and the other three waves are against the trend direction. Fxstay Team traders write how to use Elliot wave in your Forex Trading
According to the Elliott Wave theory, market move in the five distinct waves existing on the upside and the three distinct waves existing on the downside. The upwards waves that lie in the bull move are termed as Impulse waves and the other three waves that are against the trend direction are termed as Corrective waves. In the Forex market, major trend is determined by the major waves and the minor trend is determined by the minor waves. Example of Ideal Impulse Wave is given below.
Rules followed by the Impulse waves
Traders must analyze carefully that the impulse waves they observed are valid or not and this analysis must be done before predicting and acting on the predictions. There are certain rules that the impulse waves follow and these rules are listed below.
Wave 2 cannot pass the beginning point of Wave 1.
Wave 4 cannot pass the ending point of Wave 1.
Wave 3 cannot be shorter than the impulse wave 1 and impulse wave 5.
Rules followed by the Corrective waves
There are certain rules that the corrective waves follow and these rules are listed below.
The first wave cannot be retraced more than 100% by the first wave.
The second wave can be the short but cannot be the shortest in any impulse sequence. Mostly the third wave is the longest of all the waves.
The fourth wave never goes in the first wave’s price range.
List of Elliot Waves Theory
Elliott theory stated that the waves exist at many levels that means waves could exist with in waves also. The names given to the waves according to the Elliott Wave theory are listed below in the order of decreasing size.
How to use Elliott Wave theory in Forex Trading
Trading according Elliott Wave theory is simple to understand easy to implement for the Forex traders and investors. The primary task of the Currency traders and investors is to identify the Supercycle. Supercycle is the main wave. After identifying the Supercycle, trader opens a position and closes it when the reversal is determined. This process continues in the next shorter cycles. This process continues until the cycle finishes and the Supercycle resurfaces. Wave identification is the difficult task in the Elliott Wave pattern and so the traders and investors should be cautious about this identification.
Elliott Wave Theory fails when the extreme point of the fifth wave is not able to extend the extreme point of the third wave. This signals a weak underlying Forex trend. For example, see the figure below.
As you can see the in the figure above, the second wave neither moves below the beginning point of the first wave nor retraces more than 66% and the extreme point of the fifth wave extends the extreme point of the third wave. Beginning of the wave 4 is also not below than the wave 1 and wave 3 is neither shorter than the wave 1 nor than wave 5.
The traders using the concept of the Elliott Wave theory should have clear knowledge of trading using the Elliott Wave theory and should also check the case in which the Elliott Wave theory fails. You can learn Forex trading free in Fxstay foreign exchange school.