The theory behind the Elliott wave principle is based on how price moves, not in a straight line, but in waves. This theory is named after ocean tide coming in as the water rises, and flowing out as the water falls back into the sand below. In any financial market including cryptocurrency, all action follows up with an equal and opposite reaction. When price movement moves up, a downward movement follows with it. Price movement within any financial market is often divided into trends and corrections. Upward or downward price action infers to the trend, while corrections always moves against the trend.
A man named Ralph Nelson Elliott, first found out these repeating patterns in the financial market, known as impulsive and corrective waves. He noticed that these waves, always coincide with the main trend and tend to respond within 5 waves. These impulsive waves can be found even on a smaller scale and continue within larger waves. He proposed that these market cycles were the outcomes of investor reactions to outside influences and the psychology.
His studies concluded that the upward and downward waves of these psychological signals continues to show up in the similar patterns throughout time. His theory is also based on the Dow Theory that also states that stock prices move with wave-like movement.
How Exactly Do Elliot Waves Work?
As discussed above, Elliot waves come in 2 different phases: motive phase and corrective phases. The motive phase forms 3 advancing waves of 1, 3, and 5 while the counter waves going down are of 2 and 4.
On the other hand, during the corrective phase, you’ll find the counter waves on opposite labeled A and C, with a counter wave going upward labeled B.
There are few rules behind the motive waves for you to try out yourselves, but you might make mistake on your first few trials. Therefore, I recommend you to use the tools that are available on your platform. Click on the tools where you can change the standard candlestick to the Heikin Ashi candlestick. This type of candlestick helps you to get a better view of the candles that correspond with a particular trend.
What are the Best Entries and Exits?
The most ideal entry point would be the start of the first wave, however it is very hard to spot as they come after a sudden dip. Most traders that uses this pattern start at the beginning of the second or fourth wave because they are much easier to spot. One important thing is you should never buy near the top of the third or fifth wave.
The best exits would be at the end of the third wave as you see on the graph, however this also can be hard to be times well because final waves can fall back more than of the initial fifth Wave. Usually, but not all the time, the wave 5 lasts for the longest period of time. Therefore for a safer exit position, do not hold longer than wave 1 and 3.