Basic Tenets of the Elliott Wave Theory Part 1 (5 Wave Pattern)
R.N. Elliott, a modest genius near the end of his life, began to study price movements in the financial markets. He observed that certain patterns of human behavior repeat themselves and with the few years he had left, Elliott offered proof of his discovery by making astonishingly accurate stock market forecasts.
What appears random and unrelated, Elliott said, will actually trace out a recognizable pattern once you learn what to look for. Elliott called his discovery "the Wave Principle," and the implications were huge. He had identified the common link that drives the trends in human affairs, from financial markets to fashion, from politics to popular culture.
Had Elliott been a younger and healthier man he might have changed the world's understanding of investment markets (and even the social sciences) all by himself. As it was, he died in obscurity in 1948 at the age of 77. Like a masterpiece from the hand of a Renaissance artist, Elliott's work had to wait for a later generation to benefit from it.
The Wave Principle is Ralph Nelson Elliott's discovery that social, or crowd, behavior trends and reverses in recognizable patterns. Using stock market data for the Dow Jones Industrial Average (DJIA) as his main research tool, Elliott discovered that the ever-changing path of stock market prices reveals a structural design that in turn reflects a basic harmony found in nature. From this discovery, he developed a rational system of market analysis.
Under the Wave Principle, every market decision is both produced by meaningful information and produces meaningful information. Each transaction, while at once an effect, enters the fabric of the market and, by communicating transactional data to investors, joins the chain of causes of others' behavior. This feedback loop is governed by man's social nature, and since he has such a nature, the process generates forms. As the forms are repetitive, they have predictive value.
Elliott isolated thirteen "waves," or patterns of directional movement, that recur in markets and are repetitive in form, but are not necessarily repetitive in time or amplitude. He named, defined and illustrated the patterns. He then described how these structures link together to form larger versions of the same patterns, how those in turn are the building blocks for patterns of the next larger size, and so on. His descriptions constitute a set of empirically derived rules and guidelines for interpreting market action. The patterns that naturally occur under the Wave Principle are described below.
The Five Wave Pattern
In markets, progress ultimately takes the form of five waves of a specific structure. Three of these waves, which are labeled 1, 3 and 5, actually effect the directional movement. They are separated by two countertrend interruptions, which are labeled 2 and 4, as shown in Figure 1. The two interruptions are apparently a requisite for overall directional movement to occur.
Figure 1
At any time, the market may be identified as being somewhere in the basic five wave pattern at the largest degree of trend. Because the five wave pattern is the overriding form of market progress, all other patterns are subsumed by it.
Long Term Monthly DOW JONES INDUSTRIALS Chart
I subscribed to this site in June of 2007. Unfortunately, I subscribed to 4 others before this one and it took less than 1 month to unsubscribe from them. My first screen name here was rrdavis. Wanted an easier screen name so changed to DWG. I've been trading now for just short of 5 years. I've learned countless times from the same school as everyone else, it's called SCHOOL OF HARD KNOX. I've learned from some of the people here and thank you all. Mainly though, John has been a positive home run slap in the face. If you stick it out and apply yourself, you can't help but learn. Earn while you learn is like on the job training. A win-win situation. Stick with what you commited yourself to. If you give up, your giving up on yourself!
DWG (01/20/08)
