Elliott Wave Theory, created by the accountant Ralph Nelson Elliott in 1934, is a price prediction model that helps investors adjust their trading strategies based on historical trends. The theory is based on a pattern discovered by Elliott while studying stock market price history.
Elliott observed that price movements follow a pattern of up-and-down waves, grouped into sets of five and three. The first set of five waves creates a positive trend, consisting of impulse waves and corrective waves. The movement peaks at the end of these five waves and then transitions into a negative trend with three corrective waves.
According to Elliott Wave Theory, this pattern repeats in cycles of eight waves, with the second set of waves never dropping below the lowest point of the initial five waves. The theory suggests that as long as there are no unexpected shifts in price, such as a rug pull, the price will continue to rise in the long term.
Elliott believed that these market cycles can be observed across various time frames, from short-term trading periods to longer intervals. When trading in the cryptocurrency market using Elliott Wave Theory, it is important to note that patterns may not always perfectly align with the theory. However, there are rules to help visualize trading patterns, such as wave retracement and wave lengths.
Traders can apply the theory visually by identifying bullish and bearish waves, labeling the waves, and using indicators like the relative strength index (RSI) and the Elliott Wave Oscillator. Waves can last for days, weeks, or years, with their length known as wave degrees.
Combining Elliott Wave Theory with Fibonacci ratios is a common practice in crypto market forecasting. Fibonacci ratios, derived from the Fibonacci sequence, are used to identify trends. By applying these ratios to Elliott Wave Theory uptrends, traders can make more informed technical analysis predictions.
While Elliott Wave Theory is a valuable tool for understanding market dynamics, there are risks associated with its use in crypto trading. These risks include subjectivity in wave counting, complexity, confirmation bias, vulnerability to market volatility, and limited predictive accuracy. Traders should use Elliott Wave Theory cautiously and consider other technical indicators and fundamental aspects in their trading strategies.