Capital Properties FX
Capital Properties FX

5 Reasons Why Elliott Waves Works


The Elliott Waves Theory is one of the most popular trading theories in the world. Everyone knows how to count waves, right?

It is so popular because it is presented as being such a simple thing to do. After all, the definition sounds so simple, anyone can understand the principle: five waves up corrected with three waves down (in a bullish trend).

The opposite is true when the market is in a bearish trend: five waves down corrected with three waves up. And just like that, Elliott Waves theory is telling you when to buy and when to sell in a bullish or bearish trend. What can go wrong?

Elliott Waves

What Is the Elliott Waves Theory?

Like all things in Forex trading, the reality is not that simple. Many things can go wrong and even experienced traders that are not familiar with the concept end up missing the whole point.

FX trading is subject to different interpretations as the market swings a lot, based on either technical or fundamental reasons, or, sometimes, based on nothing at all. Simple supply and demand imbalances are enough to move any markets, including this one.

Before going into more details about what Elliott Waves is, it is worth mentioning here what it is NOT:
• It is NOT the holy grail in trading. To be honest, nothing is.
• It is NOT working if you don’t put a lot of time and effort to understand the principles and rules to be applied.
• It is NOT a getting rich scheme. Unless you know your way in the long run.

What is it then?

Explaining the Concept in Plain English

Elliott developed the theory based on the stock market interpretation quite some time ago. This doesn’t mean it cannot be applied to the Forex market.

Anything that moves and has a chart, can be subject to be counted under the Elliott Waves principles. This includes any Forex charts.

The idea here is to have access to as much historical data as possible. If you look, for example, on the patterns formed back in time in the last five years, on the monthly Forex chart this means only sixty candles.

This is not enough for a pattern to form and cannot be used for a proper top/down analysis. Fortunately, brokers offer plenty of data to interpret, and the rules can be applied.

Five Waves Corrected with Three

Yes, that is exactly the statement from the start of this post. However, things are about to get more complicated.

You see, exactly this simplicity makes Elliott Waves so complex. And because it is so complex, it is working in providing the right forecast and the right direction the market will reach.

The thing is that each of the five waves and the three ones that follow is formed out of waves of a lower degree. And all those waves of a lower degree are formed out of other waves of an even lower degree, etc.

And the subdivision can go on and on and on…until you’ll get lost in counting the waves. This brings us to the number one problem many traders have when dealing with financial trading: where to start the analysis from?

Elliott Waves Works

To deal with this, Elliott looked at different cycles that complete a cycle of a lower degree. In other words, any five-wave structure ends something of a bigger degree.

It can be an impulsive or a corrective wave, and that wave of a bigger degree can be the start or the end of a move of an even bigger degree. Isn’t it simple?

Elliott Forex Market

Impulsive and Corrective Waves

Fortunately, when taking a Forex trading course based on the Elliott Waves theory, one must decide on only one thing: if a move is impulsive or corrective.

That’s it, no more, no less. Based on the answer to that question, a whole bunch of possibilities is opening and a set of rules must be respected to validate a count.

A move is impulsive if:
• It has five waves.
• It is labeled with numbers.
• There is minimum one extension.
• Three waves of a lower degree are impulsive and the other two corrective.

Beware, those are the minimum conditions! To be one hundred percent a move is impulsive, plenty of other things need to be checked.

For a corrective wave, the following are mandatory:
• It is labeled with letters.
• Corrects something (hence, it moves in the opposite direction).
• It can start and end a wave of a bigger degree.

And much more. To have an idea about the complexity of corrective waves as defined by Elliott, one needs to think of the fact that markets are spending most of the time in consolidation, or ranges.

Rarely you’ll see a big trend forming, and even in that trend, there need to be two corrections. Chances are that those two corrections will cumulate the most time out of the whole impulsive move.

In other words, even in an impulsive move the most time is likely to spend in corrections. How crazy is that?

Reasons Why Elliott Waves Works

Before continuing, it should be mentioned that everything stated up to this point is just a fraction of what the whole theory means. If anyone wants to learn how to trade Forex with Elliott, time and dedication are needed.

The good part is that anyone can do it. The set of rules is so simple and straightforward, that leaves no room for interpretation.

What makes the difference between succeeding and failing in Forex trading is not the trading theory or concept used, but human nature. This is the one thing that keeps traders fail on and on, as either fear or greed are the biggest enemies of a trading account.

Reason nr. 1 – Price and Time

This is supposed to be the holy grail in trading. It is one thing to know where markets are going, and a different one to know WHEN this is going to happen.

Let me give you an example. If someone tells me that the EURUSD currency pair is moving to 1.40, but it is not telling me when this is happening, then I am not interested.

As a trader, I need to place my margin in trades that are about to happen right here and now, this week or month, not for years and years. And then, even this is variable, as it depends very much on the time horizon your investment has.

Anyways, if there’s ever a trading theory out there that allows incorporating the time element into a forecast, Elliott Waves is. This is so powerful as it gives you the exit from a trade while still in profit, only because a specific level was not reached in a specific amount of time.

Price and time. The holy grail in trading!

Reason nr. 2 – Allows a Disciplined Approach

What is forecasting? In short, it is the ability to predict future prices based on historical ones.

The same is with this theory: it gives the future direction of the market based on historical prices. Or patterns. Or whatever you want to call them…

If history repeats, then patterns repeat as well. A disciplined approach calls for using a top/down analysis to come to the right conclusions before taking a trade.

Reason nr. 3 – It Involves ALL Time Frames

Any Elliott Waves forecast should be the outcome of all the possible time frames. No one says that counting below the hourly time frame is recommended.

But, from monthly to weekly, daily, and down to the hourly, it is mandatory to use a top/down approach. This way, if you’re right about the direction of a currency pair, chances are other currency pairs that have a direct correlation will move the same way.

Reason nr. 4 – Gives Great Risk-Reward Ratios

Those looking to have only winners when trading the Forex market can forget that thought this instant. It is not possible to have that.

The idea is to see the account growing in time. One can have a bad month or a series of bad trades, but what is important is for winners to value more than losers.

As part of any proper money management system, the Elliott approach allows for great rewards. Stop loss and take profit levels can be easily identified, and, by putting a time element to a forecast, we can follow the scenario.

Reason nr. 5 – Incorporates Human Nature

Perhaps the most important thing is that this theory, like no other, incorporates human nature and considers how we, as humans are supposed to interact with the market. It may sound like a big statement, but it is true.

This is what gives the Elliott Waves Theory the prediction power that it has. Now that Brexit and the U.S. Presidential election are still fresh in mind, such a theory allows knowing the outcome beforehand based on market reactions prior to these two events.

Check the video below and see how we nailed Brexit:

Conclusion

Here on Capital Properties FX, we’re using Elliott Waves as the basis for our trading. We’ve managed to multiple a trading account five-fold in the last three years, and all these while keeping an eye on both time and price perspectives.

Just think of how many NFP (Non-Farm Payrolls) releases, Fed and ECB (European Central Bank) decisions were influencing markets all these years. Not to mention the SNB (Swiss National Bank) dropping the EURCHF 1.20 peg floor.

Despite all these, we’re standing here and all due to this theory.

How an Analysis is Looking Like

Proper use of the Elliott theory implies a complex environment that considers, on top of the rules to follow, other things like:
• Channeling
• Fundamentals – we may know where the market is going, but we need a reason for that
• Money management.
• A plan
• Plan’s execution
• Patience and discipline

Below you can see how an analysis may look like and what to make out of it. Before judging and drawing any conclusion, think of the fact that every letter and number on that chart and every horizontal and vertical line have a significance and the whole concepts lead to a forecast.

Elliott Waves Forex

To sum up, like anything in life, profitable trading is the outcome of a lot of work and discipline and it is not possible without passion and dedication. All these make the Elliott Waves theory the most powerful trading theory in the world.