Previous article here on ForexGator.com had the purpose of introducing you to the general principles of the Elliott Waves Theory and moving on I will like to go into more details regarding how to trade with the theory, keeping in mind though that this still basic information that everyone should know.
As mentioned last time, Elliott referred to any move as being either impulsive or corrective, and this article has the purpose of showing what kind of impulsive waves there are, how many types and how to trade such a move.
Firstly, any impulsive wave is a five wave structure and therefore the waves of a lower degree should be labeled with numbers and numbers only, namely: 1-2-3-4-5. Out of those five waves, waves 1, 3 and 5 area impulsive as well, while the 2nd and the 4th one are corrective.
Secondly, it should be noted that no parts of the whole impulsive move should retrace below/above the beginning of the impulsive wave, so this should be taken as invalidation or a place to put a stop loss. No matter how powerful the correction in the second wave is, there is no way that it completely retraces the 1st wave.
Moving forward, there is a need for an extension or a wave that should be clearly bigger than the other two, and this extension can only apply to waves 3, 1 and 5, in this order. No matter the extended wave, as a rule of thumb, wave 3 cannot be the shortest when compared with waves 1 and 5.
A third wave extension is the most common formation for an impulsive wave and traders are focusing to find out the end of the 2nd wave in order to trade the break higher/lower in the third wave.
Second when it comes to the possibility to have an extension, that is the 1st wave extension and this means that the longest wave out of waves 1, 3, and 5 is the first one. In this case, it should be noted that most of the time the second wave is more complex than the fourth one and the most time consuming when compared with all other waves.
The above statement can be used as a confirmation when you try to identify such a pattern. The first wave extension is difficult to be identified when it is actually happening because wave 1 will be characterized by an explosion higher. However, traders are using this kind of pattern to try to find the end of the whole impulsive move and to project/forecast what is coming after the five wave structure is completed.
Last but not least, there is a possibility that the market is forming a fifth wave extension, meaning wave five is the longest in the whole structure. This is one of the most difficult patterns to be traded in the sense that by the time waves 1, 2, 3 and 4 are completed, the pattern looks like a corrective wave and everyone will try to trade in the opposite direction.
Because the whole market is trading the other way around, price explodes for the fifth wave and stops are being triggered pretty fast, hence the violent move.
It should be mentioned that 5th wave extensions are rare patterns and the least possibility for an impulsive wave.
Also as a rule of thumb, there should be no overlapping between the corrective waves, and if this is happening than the whole move is not an impulsive move. In plain English, wave 4 should not go into the territory of the 2nd wave in order for a five wave structure to be called an impulsive wave.
Speaking about the two corrective waves in an impulsive move, look for them to be different. If they are similar, it gives the whole five wave structure a channeling aspect, and, also as a rule of thumb, an impulsive move is NOT channeling.
These two corrective waves should be different when it comes to the time taken for them to form, distance travelled or complexity.
As you can see, there are a lot of things to consider before taking a trade using an impulsive structure, but the beauty of the whole theory is not only that an entry and a stop loss can be placed, but a target or invalidation as well.
In conclusion, there are three types of impulsive waves, and if you think that they are complex, then you should wait till next time when we will introduce the corrective waves.
As a small introduction until the next article, corrective waves are either simple or complex, and next time we will deal with the simple ones.