What is a 5th Wave Failure?
The notion of a fifth wave failure is a pretty simple one in the Elliott Waves Theory and this comes from the fact that it is to be found only when in impulsive moves with a third wave extension. This means that only in a five waves structure that moves either to the upside or the downside, the third wave needs to be the longest one between the motive waves (waves that are declining in a bearish move or advancing in a bullish one). If that is happening, then there is definitely the possibility for the 5th wave to be a failure, and this means that it is failing to take the highs/lows of the previous 3rd wave.
Look for Equality
As a rule of thumb, whenever there is a 5th wave failure, market participants should look for equality between the 1st and the 5th wave, so all in all we have some clues about when to expect such patterns. For the forex trader this is important as the best place to place SELL order in a rising impulsive move with a third wave extension is to wait for the third wave to extend, then go for the equality rule between the 1st and the 5th and take the option when conditions are met.
An impulsive move has a five wave structure and this is the cornerstone of any Elliott Waves analysis one is making. Impulsive moves are being the ones that every trader hunts as at least one wave in an impulsive move needs to be extended and by definition extension should travel at least 161.8% distance when compared to the previous one. It means that the time frame the analysis is being made plays an extremely important role in setting the expiration date of an option.
Out of those three waves that are moving with the general trend the impulsive move is moving, the fifth wave is offering us many clues regarding future price action based on its structure and where it ends. Most of the times, and by this I mean a percentage that is more than ninety, waves one, three and five make a series of higher highs in a bullish impulsive move and lower lows in a bearish impulsive move, namely three highs and three lows.
Signaling a Top or a Bottom
Whenever the fifth wave fails to take the highs in the previous third wave in a bullish impulsive move it is said that market is forming a bearish fifth wave failure, while the opposite is true as well. When the fifth wave fails to take the lows in the previous third wave in a bearish impulsive move, it is said that it is forming a bullish fifth wave failure. The thing is that these failures are always a sign of bottoming or topping to come and it tells a lot about the expiration date to be used as well as about future expectations as they signal the end of a cycle or a trend and the beginning of a new one.
The bigger the time frames the failures are forming, the bigger the implications for the overall market as it offers us clues about other correlated markets as well and the options that can be traded. For example, if we see a fifth wave bullish failure on the EURUSD daily chart it means a bottom is in place and we should BUY. Based on the fact that the EURUSD pair is signaling a bottom it makes sense to go and trade contracts with same direction on AUDUSD or GBPUSD pairs, as they are directly correlated. Therefore, using the information from one currency pair to trade other currency pairs is key.
Like mentioned at the start of this article, fifth wave failures often result in the fifth wave being almost equal with the first one and if in doubt about the counting then this small characteristic is key in interpreting market the right way. It is strongly recommended to skip any possible fifth wave failure interpretation if the fifth wave is different than the first one as if that is the case than the whole analysis is most likely incorrect.
Using Small Cues
Elliott Waves Theory is subject to many interpretations and it is being said that the whole theory is relative and there is no straight line when taking a trade as it depends very much on the starting point of the count, and so on. I am saying that taking different small clues from one market and extrapolating them to other markets should make the difference between winners and losers, between successful traders and ones that are still struggling.
More details about how a fifth wave failure looks like and how to trade it by the time market is forming such a pattern in the two video analysis that are in this article.