Stocks

Surfing the Waves

BrandonWendell
Brandon Wendell
Instructor, CMT

Last week we learned about the basic tenants of Elliott Wave Theory including the wave structure and patterns.  This week we will learn how to measure the waves and even some trading strategies that can be used for trading with the waves.

If you recall from the previous article, the waves form in distinct patterns and follow certain rules.  In addition to these rules, there are guidelines that allow a trader to estimate the length and time of the waves.  These guidelines then offer a trader or investor opportunities to enter positions with a higher probability of success.

Free Trading WorkshopRemember that guidelines are not as strong as rules, and prices can and will deviate from these guidelines.  The best entries and exits to positions are found with Online Trading Academy’s Core Strategy.  The Elliott Wave Theory can be applied as an odds enhancer to your core strategy of identifying strong supply and demand zones.

Last year I discussed the use of Fibonacci retracements and extensions as a means to estimate turning points of both retracements and corrections. These tools can be applied to measuring the impulse and corrective waves and, when they align with a supply or demand zone, can offer the trader the high quality entry and exit points I mentioned.

When analyzing the impulsive five wave movements, the most common measurements are:

Common Elliot Wave measurements

Wave one can be difficult to identify and trade, so when attempting to trade impulses in the larger trend you may have a better chance for success when trading Waves Three or Five.  The entry for the position would be at the beginning of Wave Three or Five.  This should only be done when there is a strong supply or demand zone that corresponds with the Fibonacci retracement level usually associated with the end of the corrective wave.

When the corrective Wave Two is a zig zag, you would want to enter into the beginning of Wave Three at a demand or supply zone that is at a 61.8% retracement of Wave One.  The entry for trading Wave Five would be at a 38.2% retracement of Wave Three.Trading impulse waves - zig zag entry

Trading an impulse wave after a flat corrective wave may be easier as the end of Wave A often forms demand or supply for Wave C.Trading impulse waves - flat entry

Of course, before you enter a position in the markets you should have also identified your targets. You would target the next opposing supply or demand zone which is where the Fibonacci extensions can help. You can measure the previous impulse waves and see which supply or demand zones line up with the measurements. The most common measurements are below.Impulse wave targets

You can also trade the corrective waves. These waves will be smaller and offer lower profits than the impulses but give additional opportunities while waiting for the large impulse moves. Since we know that the impulses are likely to end at a supply or demand level that matches with a Fibonacci measurement, we know our entry for the correction trade. We can enter right at the beginning of those corrections.How to trade using Elliot Wave Theory

The targets would be the opposing supply or demand zone that corresponds to a Fibonacci retracement level.  The most common targets are below.

Elliot Wave correction targets

Now that we have an idea of how the entries and exits are identified, let’s look at the markets and see how we can put Elliott Wave Theory to use.

In the 60-minute chart of SPY, you can see wave one, wave two and the start of wave three.  The sub waves have also been marked.  A trader looking for a long opportunity was able to enter at the point where price pulled back in wave two, to a point where it had both retraced 38.2% of wave one and also a fresh demand zone.

Elliot Wave chart for SPY

The target for the trade would need to be identified prior to entry into the position. Potential targets for the long trade would be where Fibonacci Extensions line up with supply zones. Note that this will only mark the end of wave three, not the end of the trend. The trader could lock in profits at the beginning of the wave four correction and then re-enter for wave five.

Chart of possible targets for trade using Elliot Wave Theory for SPY

Elliott Wave Theory can be useful in order to increase your chances for success in your trading.  Notice that it can only help increase chances; in order to know where the best entry and exit points are in any market you should apply Online Trading Academy’s core strategy.  To learn these valuable tools, visit your local center today.

Brandon Wendell – bwendell@tradingacademy.com

Disclaimer
This newsletter is written for educational purposes only. By no means do any of its contents recommend, advocate or urge the buying, selling or holding of any financial instrument whatsoever. Trading and Investing involves high levels of risk. The author expresses personal opinions and will not assume any responsibility whatsoever for the actions of the reader. The author may or may not have positions in Financial Instruments discussed in this newsletter. Future results can be dramatically different from the opinions expressed herein. Past performance does not guarantee future results. Reprints allowed for private reading only, for all else, please obtain permission.