Elliott Wave Theory for Beginners

Introduction to Elliott Wave Theory

Ralph Nelson Elliott discovered in the 1930s that stock market prices trend and reverse in recognizable patterns. These patterns, called "waves," reflect the dominant psychology of investors at the time.

The Basic Wave Structure

Impulse Waves (5 Waves)

Impulse waves move in the direction of the larger trend and consist of 5 sub-waves:

• Wave 1: Initial move in the new direction
• Wave 2: Corrective wave (typically retraces 50-61.8% of Wave 1)
• Wave 3: Strongest and longest wave (never the shortest)
• Wave 4: Consolidation (doesn't overlap Wave 1's territory)
• Wave 5: Final move in the trend direction

Corrective Waves (3 Waves)

Corrective waves move against the larger trend and consist of 3 sub-waves labeled A, B, and C:

• Wave A: Initial counter-trend move
• Wave B: Partial retracement of Wave A
• Wave C: Final move completing the correction

Key Elliott Wave Rules

1. **Wave 2 cannot retrace more than 100% of Wave 1**
2. **Wave 3 is never the shortest impulse wave**
3. **Wave 4 cannot overlap Wave 1's price territory** (except in diagonals)

Fibonacci Relationships in Waves

Elliott waves often relate to each other through Fibonacci ratios:

• Wave 2 often retraces 50%, 61.8%, or 78.6% of Wave 1
• Wave 3 is commonly 1.618x, 2.618x, or 4.236x the length of Wave 1
• Wave 4 often retraces 38.2% of Wave 3
• Wave 5 often equals Wave 1 in length

How to Apply Elliott Wave Analysis

1. **Identify the trend** - Determine if you're in an impulse or corrective phase
2. **Count the waves** - Label the waves on your chart
3. **Look for Fibonacci relationships** - Validate your count with ratios
4. **Plan your trade** - Use wave analysis to identify entry and exit points

Common Pitfalls

• Over-analyzing every minor wiggle
• Forcing wave counts to fit your bias
• Ignoring the bigger picture trend
• Not having alternative counts ready