The Elliott Wave Principle posits that collective investor psychology, or crowd psychology, moves between optimism and pessimism in natural sequences. These mood swings create patterns evidenced in the price movements of markets at every degree of trend or time scale. In Elliott’s model, market prices alternate between an impulsive, or motive phase, and a corrective phase on all time scales of trend, as the illustration shows. Impulses are always subdivided into a set of 5 lower-degree waves, alternating again between motive and corrective character, so that waves 1, 3, and 5 are impulses, and waves 2 and 4 are smaller retraces of waves 1 and 3. Corrective waves subdivide into 3 smaller-degree waves starting with a five-wave counter-trend impulse, a retrace, and another impulse. In a bear market the dominant trend is downward, so the pattern is reversed—five waves down and three up. Motive waves always move with the trend, while corrective waves move against it. The patterns link to form five and three-wave structures which themselves underlie self-similar wave structures of increasing size or higher degree. Note the lowermost of the three idealized cycles. In the first small five-wave sequence, waves 1, 3 and 5 are motive, while waves 2 and 4 are corrective. This signals that the movement of the wave one degree higher is upward. It also signals the start of the first small three-wave corrective sequence. After the initial five waves up and three waves down, the sequence begins again and the self-similar fractal geometry begins to unfold according to the five and three-wave structure which it underlies one degree higher. The completed motive pattern includes 89 waves, followed by a completed corrective pattern of 55 waves. Each degree of a pattern in a financial market has a name. Practitioners use symbols for each wave to indicate both function and degree—numbers for motive waves, letters for corrective waves (shown in the highest of the three idealized series of wave structures or degrees). Degrees are relative; they are defined by form, not by absolute size or duration. Waves of the same degree may be of very different size and/or duration. The classification of a wave at any particular degree can vary, though practitioners generally agree on the standard order of degrees (approximate durations given):
-Grand supercycle: multi-century
-Supercycle: multi-decade (about 40–70 years)
-Cycle: one year to several years (or even several decades under an Elliott Extension)
-Primary: a few months to a couple of years
-Intermediate: weeks to months
Elliott Wave prose is almost as good as Scientology: Definitely No PhD Required.
If it sounds too good to be true, it is. Consider this excerpt pulled from “Winner Take All” by William R. Gallacher:
There is little point in exploring the Elliott Wave Theory because it is not a theory at all, but rather the banal observation that a price chart comprises a series of peaks and troughs. Depending on the time scale you use, there can be as many peaks and troughs as you care to imagine. Elliott thought that a bull market consisted of five peaks interrupted by five troughs. Trouble is, no two people can agree on what constitutes a peak or a trough, so there are as many interpretations as there are chartists.
Michael Covel talks about his upcoming trip to Asia. His plans include a speech in Tokyo, time spent in Singapore, Bali, Panang, KL Thailand, with various speaking events throughout. Covel’s Asian odyssey is sure to be documented in the podcast. Covel also thanks the listeners for the success of the podcast. People feel stuck, and Covel talks about Stephen Cope’s “The Great Work of Your Life: The Guide to the Journey of Your True Calling“. Most Americans don’t want to be on the endless treadmill, and maybe trend following is a way to get the freedom that you need in order to find your calling. Next, Covel discusses a quote from Bob Prechter, of Elliott Wave fame. Covel doesn’t think that predictive techniques work, but Prechter had a fantastic piece of writing that Covel shares that analyzes some of the Fed actions in the past compared to what they’re doing now. Covel contemplates what this might mean, and how it shows the Fed might be in a panic. But what does this mean to a trend following trader? Very simply, it’s just another reason to employ a trend following strategy. If the Fed has dampened speculation in the past by raising interest rates to pop a bubble, and today you’ve got markets right back at the all-time highs but rates are still at 0%–what might this mean? If this scenario is accurate, what strategy do you employ? You can either trust the system, or you can put in place a strategy that only places trust in price action. Look at what Prechter says to inspire you to become a trend following trader. So how do you adjust? Covel goes on to discuss how to get “unstuck” quoting author Seth Godin: “Starting without seeing the end is difficult, so we often wait until we see the end.” Next, a quote from Atul Gawande that talks about knowing your fallibility, and the importance of practice and nurture (in trend following). Covel also discusses an upcoming massive searchable .PDF file that he’s putting together featuring 15 years of research containing background documents, systems, and other research materials.
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