Using the Elliott Waves Theory to inform your trades has both advantages and disadvantages. As it is a relative theory, it is important for traders to consider several scenarios and to use the appropriate expiry date for the time frame that is being analysed.
The Elliott Waves Theory has its own set of rules for every pattern formed by the market in the analytical charts, and by applying them, the trader is able to reasonably forecast what the price action may be on the right side of their chart. There are, however, some tips and tricks to look out for as confirmation stages of corrective waves such as zigzags, flats and X waves. Knowing these can make a big difference between a successful trade and a financial loss.
What are Corrective Waves?
Corrective waves are just ranges, which can be either larger or smaller depending on the timeframe over which the technical analysis is being carried out. For example, contracting triangles which occur on a lower time frame such as a five minute or hourly chart implies an expiry date for a chosen option which is very different to that implied if the contracting triangles are appearing on a daily chart. Therefore, making sure that the expiry date is adjusted to match the appropriate time frame is essential for executing a successful trade.
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A triangle can be confirmed by observing the way that the trend line B-D is broken. All triangles are formed from 5 waves (a-b-c-d-e) and they are all corrective waves. When a trader connects the B-D and A-C trend lines, the triangle can be formed. This may either be a contracting triangle if the lines meet at a future point, or an expanding triangle should the trend lines move in different directions. To confirm the triangle, whether or not it is expanding or contracting, the trader looks for the trend line B-D to be broken in a shorter time than that taken for the formation of the E Wave. A trader must count the candlesticks for the E wave to find the maximum estimated time for the breakage of the B-D trend line. If the line is then broken in the appropriate time, this means that the triangle has been completed and is therefore confirmed, and a new wave is about to start, or has already started. Should the triangle be a reversal pattern with the trend changing, the trader should look for a larger expiry date for their options, but if the triangle shows a continuation pattern, a limited price action is called for.
Waiting for the Channel to be Broken
Although the triangle will break the B-D trend line and often retest it, this does not always occur. However this retesting of the trend line B-D is a sign of confirmation, and usually it shows the ideal striking price for binary options trading.
When using Elliott Waves Theory to trade binary options, investors can also wait for the channel to be broken before making a trading decision. This is because only the zigzag patterns are channelling, and by the time that the channel has been broken, it is a sign that the triple or double zigzag has been completed and therefore a move to the opposite direction is about to begin. However, as a zigzag pattern will be a corrective wave, this means the retracement must be a minimum of 61.8%. The investor should therefore use a Fibonacci retracement tool and drag it from the start of the zigzag pattern to the low that is made during a bearish trend following the breakage of the channel in order to find a target for the upside. This is also true for the opposite direction.
In the case of impulsive waves, alternation between the second and fourth waves is essential and this means that there can be no channelling. Alternation is the most important factor during an impulsive move and is the essential component to confirming any 5 wave structure.
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- “Fuzzy logic approach to identification and forecasting of financial time series using Elliott wave theory.”, Matviychuk, Andriy, Fuzzy economic review 11, no. 2 (2006): 51
- Elliott Wave dilemma: Bull or bear market?., MacDowell, C. R. (1990), Technical Analysis of Stocks & Commodities magazine, January