What is Elliot Wave Theory?
Elliot wave is one of the commonest way that investors in the stock market have applied to better their returns. The theory describes how different groups of people behave. It states that mass psychology switches from optimism to pessimism and back in a certain sequence and whose patterns can be tracked and measured. In stock market and other financial markets, investor psychological changes are tracked in relation to the price changes. Investors concentrate on repeated patterns today to predict where the market will head tomorrow.
The theory/principle is the work of Ralph Nelson Elliot and thus christened Elliot Wave theory. It is a measure of investors’ psychology changes; investors will charge high when they are positive about the future of a given niche. Investors have noted that stock market is not affected by external factors. A resolved look at the progress charts of the stock market shows that they appear in waves.
Investors thus use the wave patterns and identify the market structures in order to predict what will or will not happen in the stock market and thus select the best moves to take to increase their returns. These investors are known as Ellioticians.
What process does the Wave Analysis follow?
The Elliot Wave analysis is rooted in the Elliot wave theory which implies that psychology is the driving force in the stock markets. The theory is a series of ways through which investors move from absolute pessimism to absolute optimism. It describes the stages through which investors pass through to better their psychological perspective while they are part of a bigger crowd. The trend of changes do not change much in an individual investor as outside forces do not have any effect.
Elliot wave analysis thus is the process where psychological perspectives of investors are decoded into patterns. Wave analysis is done on all major world’s stock indexes and the trend illustrated for better use. You must be conversant with the Elliot Wave theory in order to decode the Elliot Wave analysis and predict the way a market goes. The different personality traits and the structures’ patterns allow investors predict what will and what will not happen in the stock market and thus make informed decisions on the steps they make next.
How do investors use the Elliot Wave Theory to their Advantage?
The first great impression that a newbie in Elliot Wave theory and analysis will get is the capability to show the future of the market. The theory suggests the most probable points at which the market will take a turn; this shows you the prospect on where to enter or exit and the greatest success point.
The theory identifies price patterns in the market. As an investor, you start by analyzing waves seen on a chart. There are two types of waves seen on a chart; corrective and impulsive waves. A corrective wave has three sub-waves while an impulsive wave has five. An impulsive wave moves in the direction of the proceeding larger wave while the corrective wave moves against it.
To predict the direction of the market and what is likely to happen or not happen next, the investor needs to identify complete waves, both five and three waves, in the market action charts. It is important that the investor knows that the Elliot Wave Theory only gives you a clue in determining the future of the market and the probability of success but not the specific results of the market. Sometimes wave interpretations may be multiple making it a challenge to choose the right one. The investor should thus scrutinize the interpretations and get their probabilities.
Among all the interpretations that a wave may have, Elliot’s rules states that the valid interpretations also called alternate counts should be kept low. The best interpretation must satisfy the highest number of guidelines. The greatest alternate is the one that satisfies the next highest number of guidelines. An investor cannot sideline alternates if they want to get a clear picture of the future of the market using the Elliot Wave Theory.
Fibonacci ratios is another great way of applying Elliot Wave theory. Fibonacci market analysis is the work of R.N. Elliot and thus there is a great relation. To start with, you should have a valid wave interpretation. Elliot banked on two intuitions regarding the Fibonacci and waves relationships. The first is that corrective waves used impulse waves of similar degree in Fibonacci ratios repeatedly – popular wave relationships are 62%, 50% and 38%. Second, same degree impulse waves related to each other in Fibonacci ratios.
Wave interpretations and Fibonacci ratios are used together to give investors the best strategies to apply to reduce risk and increase chances of success in the stock market. It is through this theory that investors decide where to invest on, where to stay away from and what strategy applies to a certain point. Simply put, you are able to get the highest probable market point.
It is easy to apply the Elliot Wave Theory in marketing and achieving great in the stock market. However, mastering the application is a gradual process that takes practice and dedication. An investor should dedicate their time and learn the basics of making proper counts and interpretations. An investor can decide to get a software that does the counts and gives the results or can decide to do the counts on his/her own. Most people recommend that you do the counts yourself as it is much more accurate than the software way.