What Invalidates an Elliott Wave?
The Elliott Wave Principle is a form of technical analysis which asserts that financial markets move in repetitive patterns due to crowd psychology. It enumerates impulse waves which establish trends and corrective waves which oppose them, as well as corrective waves which oppose them.
There may be multiple interpretations for an Elliott wave pattern. The more counts there are, the less likely it is that your count was accurate.
1. Wave 2 is not an impulse wave
Wave 2 in an impulse wave must not descend below the beginning of Wave 1, nor should it retrace more than 100% of Wave 1. Furthermore, it should never overlap with Wave 4.
Newer Elliott technicians may misinterpret this rule and it’s the single most frequent error made. Mistakenly taking this approach indicates their lack of experience with the Elliott Wave Theory.
Impulse Wave 2 and Wave 4 typically alternate between sharp (zigzag or zigzag/flat combo) and sideways patterns such as triangle. In certain situations, triangles may extend further out.
Traders must never stray from the rules and guidelines that regulate specific waves or wave structures, such as extension, truncation and alternation. When rules are disobeyed they invalidate an Elliott wave count which must then be replaced with one which adheres to its principles.
2. Wave 3 is not a corrective wave
Elliott Wave Theory provides guidelines that govern the structures of motive and corrective waves, helping analysts better understand market trends and accurately forecast price moves in the future. Furthermore, traders rely on these rules as potential buying/selling opportunities in the market.
One of the key guidelines of corrective waves is for Waves A and B within each correction to alternate forms, meaning if a corrective wave forms as either flat or combination in Wave A, then in Wave B it should take on more of a zigzag pattern.
Note that Wave 4 should never retrace more than 38.2% of its preceding Wave 3 in its entirety in one direction. Although it may overlap with Wave 2, but should never go against its trend of higher wave degrees – otherwise this can lead to invalid Elliott wave analysis.
3. Wave 4 is not a corrective wave
Corrective waves may have flat, combination and triangle patterns; however they cannot have diagonal waves as these occur at the ends of higher degree impulse and correction patterns and can often mislead traders into taking long positions thinking they have identified an impulse wave.
As Elliott discovered, market movements are fractal in nature and repeat themselves across various degrees of trends. Therefore, it is crucial to understand the rules and guidelines applicable to specific waves; higher degree waves typically consist of five subwaves with motive sequence, while corrections will likely use three wave structures instead. Corrective waves must never extend past Wave 1 low point and must exhibit between 38-78% Fibonacci ratio within Wave 3. If either parameter is violated it invalidates the wave count.
4. Wave 5 is not a corrective wave
Elliott Wave theory stipulates that motive waves should never overlap their corrective waves, although this rule may occasionally be broken. To ensure accurate wave counts, however, it’s essential to adhere to its rules of analysis.
Corrective waves often retrace approximately 38-78% of their length since starting an impulse wave, often overlapped each other to form combinations that may either be flats or triangles shaped like triangles, as well as more complicated forms like zigzags, double zigzags or triple zigzags.
Elliott Wave patterns exist on multiple timeframes, meaning that even if five wave sequences appear identical on separate charts at different times, this does not guarantee their synchronicity – these charts often have different wave degrees which must be tracked so as to understand if an Elliott Wave count becomes invalidated by new wave degrees. It is therefore essential that you monitor these variations so as to fully comprehend if an Elliott Wave count needs updating due to changing wave degrees.
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