What is an Extended Wave?
An impulsive move is characterized by having at least one wave that is bigger than 161.8% extension when compared with the next longest wave. Any five wave structure has at least one wave that is extended and between the advancing waves, the candidates for extension are, in this order: the 3rd, the 1st and the 5th.
While trading with a third wave extension has already being discussed here, how about trading forex when the impulsive move is a first wave extension (when the first wave is longest one)?
Well, it should be mentioned that a first wave extended impulsive move should come in two different places: either at the beginning of a strong and powerful impulsive move and the whole five waves structure with the 1st wave extension to be nothing but the first wave of a bigger degree; either at the end of a powerful impulsive move and the whole five waves structure with the 1st wave extension to be nothing but the fifth wave of a bigger degree.
The difference between the two stays with the overlapping between the corrective waves of a lower degree.
1st Wave Extension in Trading
Like the name of this article suggests, a first wave extension means that in a five wave structure, the first one is the longest one. When it happens that the first wave is the longest one, then it is said that market is forming a first wave extension impulsive move.
There are two types of impulsive moves with a first wave extension and the key to differentiate them stays with the overlapping that may or may not be present.
If the overlapping is present, then the 1st wave extension impulsive move is formed only out of corrective waves and this means that out of the 1-2-3-4-5 wave structure, all of them are corrective. This kind of pattern is also being known under the name of a wedge or a triangle that appears at the end of a move of a bigger degree.
If that is the case, the key to trade is to look if the wedge is rising or falling – a rising wedge is falling and we should look for buying put options and a falling wedge is rising and we should look for to go LONG with BUY orders or CALL options, depending what you use to trade forex.
In the same situation, the next thing to do is to draw the 1-3 and 2-4 trend lines and this gives the boundaries or the edges of a wedge. By far, the most important trend line between the two is the 2-4 trend line as that is giving us the perfect entry price. If the 2-4 trend line is broken, it is most of the times retested and that is when we should step in and place BUY orders /buy CALL options after a falling wedge and vice versa after a rising one.
Such a pattern appears at the end of a wave of a bigger degree, and most of the times it is a fifth wave in a five wave impulsive move or a c wave in an a-b-c structure that is either a flat or a zigzag.
The Implications of Overlapping
Coming back to overlapping, if it is not present, then there is not possible to treat a wedge the way we discussed above as it means most likely the 1st wave extension is only wave one in an impulsive move of a bigger degree.
In this situation, the thing to do is to take a Fibonacci retracement tool and measure the length of the whole first wave and look for the 23.6% and 38.2% retracement. Splitting the amount to be invested into two different parts is key in having the right entry price and adjusting the expiration in case of binary options with the time frame the pattern is forming plus some more is vital as well for the success.
In such a pattern the structure of the waves is important as well as, for example, the second wave is the most time consuming one while the 4th wave is simpler in structure and complexity than the 2nd wave. All these are giving clues about the striking price and the expiration date as well.
Looking for the Bigger Wave
In an impulsive move, at least one wave needs to be much bigger when it compares with the other two waves that are traveling in the same direction and this means that it is standing out of the crowd. There are multiple types of extensions and 1st waves extensions are not the most common ones.
However, they are common enough and a clear understanding of their formation and appearance is key in successful trading. More details to be found out by watching the two video recordings that come with this article.