What is Elliott Waves Theory?
Elliott Waves Theory is one of the most-simple trading theories that exist but it is exactly this simplicity that makes it extremely complicated. The thing is that its description is pretty straight forward: five waves up should be corrected with three waves down. The problem stays with the fact that each and every one of those waves are being formed out of another five waves up and three waves down, but this time of a lower degree, making for another cycle as were described by Elliott. And then the subdivision continues on and on so the trader needs to be real disciplined in order to know where to start a count.
Impulsive waves are the most sought for waves of them all and this is due to the fact that price is moving fast and making a quick buck is always appealing for all traders, regardless of the product that is traded.
The purpose of this educational series here is to show you how to trade an impulsive move. Even though they are not channeling, as this is a characteristic of corrective waves, they do help to find places for entering the markets.
Extensions with Elliott Waves
It is very important to know which wave is the extended one as channeling applies based on the extended wave and one will have a pretty clear idea about when to expect the fifth wave to end.
By definition, an impulsive move is not channeling and this should be the cornerstone of any analysis one is making using the Elliott Waves theory. That being said, the next thing to do is to identify the extended wave in any impulsive move as depending on which one is extending, specific actions can be taken. Any impulsive wave should be analyzed after the second wave is completed. This means the waves one and two are already completed and market participants are expected the third wave, which is the most common wave to be suitable for an extension.
Using Trend Lines
Trend lines are extremely useful in such cases and taking a trend line to connect the beginning of the impulsive wave with the end of the second wave is key. Make sure you are projecting the outcome as much as possible on the right side of the chart as this is vital for the future channel to be.
The next step is to copy/paste the resulting trend line mentioned above and to project from the end of the first wave. In this way a channel is being built and we just said that an impulsive move is not channeling.
Therefore, either the future price action in the third wave is breaking the projected 0-2 trend line or is not able to reach it. In the first case, if the trend line is being broken, then expect the third wave to be extended and to stretch more than 161.8%, into the 261.8% and above. This is a third wave extension and the way to trade in this situation is to apply the 161.8% of wave one by the time the 2nd wave is completed. When and if the upper trend line of the channel is broken but the 161.8% extension is not reached yet, buying call options on a bullish impulsive move and put options in a bearish impulsive move is the way to go.
Of course, the usual caveat applies here as well: the expiration date of binary options should be adjusted according to the time frame the impulsive move is forming. On the other hand, if price is not able to break the projected 0-2 trend line and hesitates when it is meeting it, it means market is going to channel and the move that is forming is not impulsive, but corrective. In this case SELL orders / PUT options should be traded by the time market is reaching that level in a bullish trend and BUY orders/CALL options in a bearish trend.
If price is ending anywhere between the upper side of the channel and the lower one in a bullish trend, it means the impulsive move is completed as long as we have an extension. That being the case, the way to go is to split the channel into two different parts and buy put options by the time the 50% retracement level is reached in a rising channel and call options by the time the 50% retracement level is reached in a falling channel.
Using Fibonacci with Elliott
This 50% retracement level can be used in identifying the possible end of the 5th wave on the back of knowing already what wave extended as by the time the 5th wave is forming we know how the impulsive move looks like.
The place to look for the striking price is the 50% retracement of the channel we discussed earlier, and this means buying PUT options/SELL CFDs by the time the 50% level is reached by the 5th wave in a bullish impulsive move and BUY orders in a bearish impulsive move.