The Elliott Wave theory is a technical analysis approach that involves observing a pattern of five consecutive waves before making trading decisions. The theory distinguishes two types of waves: impulsive and corrective waves.
- Impulsive waves – move in the same direction as the overall trend, and they reinforce the trend.
- Corrective waves – move against the overall trend and occur in a series of five.
Understanding market structure requires knowledge of the underlying principles of impulse moves versus corrections. This concept is critical for identifying support and resistance levels, which can be helpful for traders.
To increase the probability of earning strong returns, traders can use impulsive and corrective waves as part of their trading strategies. Additionally, understanding moving averages can also be useful in trading.
The Basic Rules of Elliott Wave Theory
The Elliott Wave theory has three basic rules that must be followed to validate the 5 wave move:
- Rule number 1:
- Wave 2 should never retrace more than 100% of Wave 1. Typically, the retracement is between 50% and 61.8% of wave 1.
- Rule number 2:
- Wave 4 should never retrace more than 100% of wave 3. Typically, declines between 38.2% and 50% of wave 3.
- Rule number 3:
- Wave 3 should always travel beyond the end of wave 1 and should never be the shortest one; Wave 3 will usually extend 161.8% of wave 1.
To play the Elliott Wave strategy, it’s best to let the first 4 wave movement unfold, and then find good Elliott Wave entry points near the end of wave 4. This is done to try and catch the last wave of the entire 5 Elliott Wave sequence.
- Download “TraderVersity-FiboElliottSystem” (Zip/RAR File).
- Copy mq4 and ex4 files to your Metatrader Directory …/experts/indicators/
- Copy the “TraderVersity-FiboElliottSystem.tpl” file (template) to your Metatrader Directory …/templates /
- Start or restart your Metatrader Client.
- Select Chart and Timeframe where you want to test your forex system.
- Right-click on your trading chart and hover on “Template”.
- Move right to select “TraderVersity-FiboElliottSystem” trading system and strategy.
- You will see the “TraderVersity-FiboElliottSystem” system is available on your Chart.
When seeking to open BUY positions, observe indicator readings as follows:
- Step #1 Wait until you can spot at least a 3 wave Elliott Wave sequence.
- Step #2: BUY Between 50% and 61.8% Fibonacci Retracement of Wave 3
- According to one of the main rules of Elliott Wave theory, ideally, wave 4 should retrace between 50% and 61.8% of the Fibonacci retracement of wave 3. To avoid missing out on potential movements, we set our entry point for Elliott Wave between 50% and 61.8% based on price action signals formed in that area. In many cases, bullish engulfing and bullish pin bar patterns often appear in this area. However, experience can help refine this entry point for better accuracy.
- Step #3: Set the Protective Stop Loss a few pips below the swing low.
- Step #4: Decide when to take profit based on your Stop Loss.
- Once you have determined your Stop Loss level, it is important to set a profit target that is three times the size of your Stop Loss. This ensures that, in the long run, your trades will remain profitable.