The Elliott Wave Principle
The Elliott Wave Principle is a detailed description of how groups of people behave. It reveals that mass psychology swings from pessimism to optimism and back in a natural sequence, creating specific and measurable patterns. One of the easiest places to see the Elliott Wave Principle at work is in the financial markets, where changing investor psychology is recorded in the form of price movements. If you can identify repeating patterns in prices, and figure out where we are in those repeating patterns today, you can predict where we are going.
The Elliott Wave
Using the Elliott Wave Principle is an exercise in probability. An Elliottician is someone who is able to identify the markets structure and anticipate the most likely next move based on our position within those structures. By knowing the wave patterns, you’ll know what the markets are likely to do next and (sometimes most importantly) what they will not do next. By using the Elliott Wave Principle, you identify the highest probable moves with the least risk.
Motive & Corrective Waves
Elliott’s pattern consists of motive waves and corrective waves. A motive wave is composed of five subwaves and always moves in the same direction as the trend of the next larger size. A corrective wave is divided into three subwaves and it moves against the trend of the next larger size.
Motive Or Impulse
Waves (1), (2), (3), (4) and (5) together complete a larger impulsive sequence, labelled wave . The impulsive structure of wave  tells us that the movement at the next larger degree of trend is also upward. It also warns us to expect a three-wave correction — in this case, a downtrend. That correction, wave , is then followed by waves ,  and  to complete an impulsive sequence of the next larger degree, labelled as wave one. At that point, again, a three-wave correction of the same degree occurs, labelled as wave two. Within a corrective wave, subwaves A and C are usually smaller-degree impulsive waves. This means they too move in the same direction as the next larger trend. Note that because they are impulsive, they themselves are made up of five subwaves. Waves labelled with a B, however, are corrective waves; they move in opposition to the trend of the next larger degree. These corrective waves are themselves made up of three subwaves.
- wave 1 must be an impulse or a leading diagonal
- wave 2 can be any corrective pattern except a triangle
- wave 2 must not retrace more than 100% of wave 1
- wave 3 must be an Impulse
- wave 3 must be longer than wave 2
- wave 4 can be any corrective pattern (zig-zag, double or triple zig-zag, triangle, flat, double or triple three)
- wave 4 should never trade into a territory of a wave 1
- wave 5 must be an impulse or an ending diagonal
- wave 3 should never be the shortest wave when compared to waves 1 and 5
Extended Wave 3
Most impulses contain what Elliott called an extension. An extension is an elongated impulse with exaggerated subdivisions. The vast majority of impulses contain an extension in one and only one of their three actionary subwaves. The fact that extension typically occurs in only one actionary subwave provides a useful guide to the expected lengths of upcoming waves. For instance, if the first and third waves are about equal length, the fifth wave will likely be a protracted surge. Conversely, if wave three extends, the fifth should be simply constructed and resemble wave one. In the market, the most commonly extended wave is wave 3.
DIAGONAL TRIANGLE (Ending Diagonal)
A Diagonal is a common 5-wave motive pattern labelled 1-2-3-4-5 that moves with the larger trend. Diagonals move within two contracting channel lines drawn from waves 1 to 3, and from waves 2 to 4. There are two types of diagonals: leading diagonals and ending diagonals. They have a different internal structure and are seen in different positions within the larger degree pattern. Ending diagonals are much more common than leading diagonals. An ending diagonal is a special type of pattern that occurs at times when the preceding move has gone too far too fast, as Elliott put it. A very small percentage of ending diagonals appear in the C wave position of A-B- C formations. In double or triple threes, they appear only as the final “C” wave. In all cases, they are found at the termination points of larger patterns, indicating exhaustion of the larger movement.
DIAGONAL TRIANGLE (Leading Diagonal)
When diagonal triangles occur in the fifth or C wave position, they take the 3-3-3-3-3 shape that Elliott described. However, it has recently come to light that a variation on this pattern occasionally appears in the first wave position of impulses and in the A wave position of zigzags. The characteristic overlapping of waves one and four and the convergence of boundary lines into a wedge shape remain as in the ending diagonal triangle. However, the subdivisions are different, tracing out a 5-3-5-3-5 pattern.
A Zig-Zag is a 3-wave structure labeled A-B-C, generally moving counter to the larger trend. It is one of the most common corrective Elliott patterns. Corrective patterns are labeled with letters, and move against the larger trend Structure is 5-3-5. Wave A must be a motive wave. Wave B can only be a corrective pattern. Wave B must be shorter than wave A by price distance. Wave C must be a motive wave. It appears in Wave 2 or 4 in an impulse, Wave B in an A-B-C, Wave X in a double or triple Zig-Zag, or Wave Y in a triple three
Flat (Regular, Expanded & Running)
A Flat is a three-wave pattern labeled A-B-C that generally moves sideways. It is corrective, counter-trend and is a very common Elliott pattern. Structure is 3-3-5. Wave B terminates about at the level of the beginning of wave A. Wave C terminates a slight bit past the end of wave A. It appears in wave two or four in an impulse, wave B in an A-B-C, wave X in a double or triple zig-zag, or wave Y in a triple threes
Structure is 3-3-5. Wave B terminates well beyond the beginning of wave A as in an expanded flat. Wave C fails to travel its full distance, falling short of the level at which wave A ended. It appears in wave two or four in an impulse, wave B in an A-B-C, wave X in a double or triple zig-zag, or wave Y in a triple threes