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The 4th grade. The Basis of The Wave Analysis (WA). How did Biil Williams help us?

#1 User is offline   Nestor 

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Posted 15 January 2011 - 18:27

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#2 User is offline   Okhotnikov Dmitriy 

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Posted 23 January 2011 - 20:46

Discussions about Elliot Waves theory usage exist for many years. Very many humiliating comments come from people who don’t get income using the theory because they don’t understand what it is and how it works. Elliot wave is a tool to analyze the origin of the market. There were a lot of literature published referring to the wave analysis. Mainly it contains a list of rules which quantity hampers the analysis and often makes the theory usage impossible for taking current trading right decisions. Wholly we can have a good look at this theory post factum but even this can not show us the wave marking certainty. By all means more simple approach to the wave analysis was given by B. Williams – the author of classic literature of trading. So I offer you to examine the Elliot theory usage written by B. Williams.

The key of the Elliot waves rhythms.

The Elliot count contains of the main set of “fives” which are corrected by “threes”. This sequence is not only constant but initial data which shows the wave origin. Also this rhythm lasts while minimal volume is in the market. So Waves can be stretched or compact (so by price and the time) but their basic form stays constant. The movement takes its main direction containing a serial of 5 waves marked from 1 to 5. The 5 waves movement is usually corrected by 3 waves in reverse direction. The numbering (1-5) was called “Main waves” by Elliot. Then Frost and Pretcher used the “Impulse waves” term for the 1, 3 and 5 waves. And correction waves were marked as a,b,c,d,e. So the 1st wave is corrected by the 2nd and the 3rd – by the 4th. Then the 5 wave count is corrected by the 5 wave count marked a-b-c.
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Fig.1

So after the 5 wave sequence is complete it becomes one of the waves of a “bigger wave” next sequence or the wave which is included in another big wave. So the full wave movement from 1 to 5 completes the next wave count of higher sequence. And this is the reason for the movement from 1 to 5 to form 1, 3, or 5 waves and the a-b-c sequence completes the 2nd or the 4th wave.
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Fig.2

Waves’ characteristics.
Many correlations which are discussed by Elliot followers can be real tendencies but they never are constant or definite. Additionally they also can be changed in the future.

Wave 1.
First waves always make a trend direction to turn. The wave 1 beginning (it can be the 5th wave end or “c or e” wave end come from counter direction) will be accorded by AO oscillator divergency (div). As soon as all indicators are in place we expect the abrupt movement from the top. It also can be a zero point which gives us more opportunities for a successful trading. The best way to expect the start and identify the 1st wave target is the research of its inner structure and waves of lesser level. Examining lesser time periods look for a 5 wave sequence inside the 1st new developing wave, and then check the div.
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Fig.3

Wave 2.
As soon as the 1st wave completes we expect the counter direction movement. The 2nd wave forms as a result of new sells (buys) as opposed to the 4th future wave which is created by taking profits (long or short positions liquidation). The 2nd wave targets can be created by: Fibonacci (Fibo) ratio or the inner wave count. More often, usual targets of the 2nd wave end is at 38 and 62 percents of the counter movement identified by price range which was created by the 1st wave. Approximately, the 3 of 4 2nd waves end there. And only in one of six cases the counter direction movement can be bigger than 62 percents. And another kind of waves considered as a special type appears if the 2nd wave end is lesser than 38 percents of correction then it shows an irregular correction.
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Fig.4

We repeat that the 2nd wave is created by new sells in an ascending trend (new buys in descending one), by traders who are not in the market and don’t agree with the upward movement to be the 1st wave in the direction. They suppose that this wave is a one more correction wave in a descending trend and they sell at the top of it. And it explains why the 2nd wave differs from the 4th one which is considered a profitable wave. Traders who are in the market and have profits will spare more time to liquidate their positions and find new opportunities for trading. It’s very important to find the target – the 2nd wave end because there are the best opportunities to trade when the 3rd wave starts which movement is faster and stronger comparing it with the 1st and 2nd waves.

Wave 3.
This wave gives an incredible opportunity to take incomes. One of the ways to identify it is to study its inclination. Usually it is steeper (price changes are faster) than the 1st wave. Sometimes they look like a vertical line and can be taken into consideration as the 5th wave outburst (any price selling). Usually the 3rd wave is accorded by a high volume.
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Fig.5

And if strong and fast movement is accorded by the low volume then it is the outburst (any price selling). During the 3rd wave economical circumstances support its movement what is not correct for the 1st wave. Fundamental reasons lay on technical indicators. And here we can find the most profitable periods to “fulfill the van”. The best identified targets are those which are in the in the price range of 1 and 1.62 increased distance of the 1st wave. The 3rd wave can be shorter then the 1st wave seldom. But very often it can be much longer in 1.62 times then the 1st wave. The best way to aim the 3rd wave end is to make a lesser time period and find the 5th wave end (the full 5 wave movement consumed by the one 3rd wave of higher level) included in the 3rd wave.

Wave 4.
As soon as the 3rd wave completes people who take profits begin to influence the market. Many experienced traders who were in a trend start taking profits closing their contracts. The 4th wave character differs from the 2nd wave much. Elliot marked this out like the interchange: if the 2nd wave is simple then the 4th one is complicated and on the contrary. The simple correction can be usually considered a zigzag. If it takes place in the 2nd wave then the 4th one is the complex flat correction (flat, irregular, triangle, double or triple of the three). 85 percents of deceptive movements can happen during the 4th wave. If you can not identify what wave you are in then you are probably in the 4th wave. If you are awake and find yourself in the 4th wave so you’d better go and sleep again. However as history shows – the market is in the 4th wave stage very often. So if we are able to aim the 4th wave end then we can have good opportunities to use it for the 5th wave profits. The percentage measuring of the 4th wave counter direction movement differs from the 2nd one in quality. Mainly the 4th wave corrections are much longer – the 5 wave count you see contains near 70 percents of duration. The 4th wave doesn’t move in a counter direction so much time like the 2nd wave till a price correction completes. And again it is caused by getting of profits not by new contracts. Wholly you see the abrupt descent of volume, volatility, indicators of price change speed and types of momentum.
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Fig.6

Circa only one of the six 4th waves moves in counter direction lesser then 38 percents of the 3rd wave length. More possible target is between 38 and 50 percents of the 3rd wave price movement. Watching the 4th wave movement remember one constant rule: the 4th wave never goes lower than the 1st wave top. But in real trading you can see exceptional cases when this rule’s judgment doesn’t fit.
Analyzing the 4th wave you can get a good position to trade in the 5th wave. It is necessary to use Fibo ratio and a lesser time period. Study the inner wave C which is included in the 4th wave and being formed inside it. Make sure that you are in the area between 100 and 140 bars of the C wave. You can get this number using different time periods.

Wave 5.

The 5th wave shown beneath is the last chance to make new price tops (bottoms) for traders. It is not so enthusiastic like the 3rd wave. And its inclination is not so steep like the 3rd wave has. Professional traders use it to take profits while others try to go into a trend.
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Fig.7

The 5th wave end calculates by the same methods. When these methods form price targets we can get clusters telling us how to propose the 5th wave end. The 5th wave length is measured from the 4th wave root that’s why there must not be any price targets projected till the 4th wave ends.
One of the most accurate proposing is a target area. Measure the price difference between the 1st wave beginning and the 3rd wave end (0-3 waves). And put off this difference from the 4th wave basis (or plus it). Then take 62 percent of this measuring length and put off it from the 4th wave end (or plus it to its basis). There are many cases when the 5th wave ends between 1 and 1.62 of 1-3 waves’ length, put off it from the 4th wave end. You also can be more accurate doing this with the 5th wave of the full 5 wave lesser movement which is inside the 5th wave. It will give a more accurate target area. As a rule, lesser area going from the 5th wave inside the bigger 5th wave will be inside a bigger target area which is made by the higher level wave. It makes your target area shorter.
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Fig.8

The full 1-5 wave movement usually completes the next wave count of a higher level. Because the movement from 1 to 5 waves creates the 1, 3 or 5 waves and the a-b-c count forms the 2nd or the 4th waves.

Corrections

They are usually classified into simple and complex. The simple correction is usually called a zigzag and complex corrections refer to all others. In the 3 wave a-b-c correction the B wave always consists of 3 waves, the C wave can contain 5 waves. As the A wave can take 3 waves - so 5 waves too. If it contains of 5 waves then it warn us that a zigzag correction is running. And if the A wave contains 3 waves then it would be better to wait for a flat, irregular or triangle correction.

Zigzag (simple) correction.

As soon as the 5 waves making the A wave are complete the correction wave B usually doesn’t move in the counter direction of the A wave for more than 62 percents of the A wave length.

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Fig.9

The A wave of a zigzag formation always consists of 5 waves. So if 5 waves can be found in the A wave then wait for a zigzag formation.
Sometimes it can be corrected to 75 percents.
So the C wave is like the 3rd wave so it is possible to use it for a profit trading. If the B wave ends between 50-62 percents of the A wave then look for the opportunity to trade in the C wave. And then trade there as if you could make a profit during the 5 wave structure trading.

Complex corrections.

There are three types of them:
- A flat correction
- An irregular correction
- A triangle correction.

A flat correction is characterized by means that every wave is identical according to the other which is at the same serial of waves. If the B wave overcomes the top of the last impulse wave then you can suppose that you see an irregular correction.
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Fig.10

An irregular correction. The wave B broke out the A wave top.
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Fig.11

Triangle corrections look like 5 wave formations marked a-b-c-d-e. They usually can be found in the 4th wave or the B wave. When triangles are formed in the 4th wave they usually follow the impulse wave 3 which begins to correct (Fig. 9-12).
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Fig.12

Triangle corrections containing of the 5 wave formation a-b-c—d-e appear in last but one the wave count such as the 4th wave or the B wave. When triangles appear in the B wave they usually follow the correction wave or the B wave itself.
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Fig.13

And when they appear in the B wave sometimes prices have a tendency to follow the A correction wave.



MACD oscillator usage (5/34/5).

We found that if we add a 5-period moving average to the oscillator then we can get a conversion into moving averages convergence/divergence (MACD). This last moving average will be a signal line (indicator of the market rhythm), which adds the assurance to trade correctly. It supplies us the accurate signal where the market can change its course.
Such signal appears before the momentum changes.
MACD with periods 5/34/5 shows what side we’d better trade in.

There are 4 main rules of MACD (5/34/5) usage:
- The 3rd wave top identification.
- The finding of the 4th wave end or when minimal conditions are done for it.
- The examination of the trend’s end and the 5th wave top.
- The immediate announcement of the momentum direction or what side a trader would better choose.


The 3rd wave top identification.
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Fig.14

In the 5 wave sequence MACD (5/34/5) is up to peak meanings of the 3rd wave top. If we make the oscillator look like a bar chart so we are easy at finding the top bar. So all the oscillators are lag indicators then the top of the 3rd wave will be the highest or the lowest price which appears between 1 and 5 bars being achieved earlier than the peak on our oscillator.
We notice that after being on top the bar chart moves lower the signal line. The signal line is the 5-period moving average from our oscillator itself. When it happens we need to be careful getting long positions – the momentum is weak. And if you are in the long position then you have 2 variants: holding it during the 4th wave or take your profit and wait for the minimal conditions are done for the 4th wave to be complete.


The identification of the 4th wave end.

After the 3rd wave ending the oscillator changes its course and goes back simultaneously with the reverse of the correction wave 4. The bar chart falls lower than a signal line and tells us that it is not a good place to take a long position. However here we have to pay attention to one important conclusion. MACD (5/34/5) is a very accurate indicator for the Elliot waves’ analysis and helps to understand how it works. It always measures the Elliot wave. So we have a question: what is the level of the Elliot wave?
The research points that the minimal length of it must be in the range from 100 to 140 bars. If we look for the Elliot wave on lesser quantity of bars then MACD measures the wave of a higher level. And on the contrary – if we study the Elliot wave which length is more than 140 bars so MACD shows the waves of a lower level.
Such knowing saves you from often mistakes which many researchers admit: the count of the 3rd lesser wave in the end of the 3rd higher level wave as a full completion of the wave 3 and the wave 5 - the 3rd wave of a higher period as the 5th wave of a higher level.
Remember that you always have an opportunity to score in a good stance (100-140 bars need for the wave serial you count) and you have an access to find the point when the 4th wave end conditions are done. So when the oscillator breaks the zero line. But here we have an important notice: the oscillator breaks the zero line after the 3rd wave peak points that the 4th wave conditions are already done. But this doesn’t identify that the 4th wave has ended. That’s why it would be early to set a trading in the 5th wave before this oscillator breaks the zero line.
To be more accurate to confirm the 4th wave end look for a-b-c or a triangle correction. Then look for “five magic bullets” inside the last wave (the C or E wave if a triangle).
Another way to find the 4th wave end is to use the Fibonacci time projecting. First, measure the distance between 1 and 3 waves’ peaks. Then multiply it by every Fibo ratio. And you will find that a lot of the 4th waves end at the time between 1.38-1.62 of a distance length from 1 to 3 waves’ peaks by the horizontal time scale, if we put off it from the 2nd wave basis.
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Fig.15
The combination of all these indicators will give you a great target zone to find the 4th wave end simultaneously identified by time and price. Now you can take a low risk contracts to get the 5th wave profits.


The finding of the trend’s end and the top of the 5th wave.

After the 4th wave ended and the 5th wave begins we can start to evaluate target prices of this 5 wave sequence. First measure the price distance between the 1st wave beginning to the 3rd wave end. Then plus this number to the 4th wave end. Mark 62 percents on this distance. And you see the best price target area of the 5th wave end between these 2 numbers.
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Fig.16
Then count 5 waves inside the wave (5). Repeat these all measures for every of these 5 waves inside of the wave (5). It will give you the decreasing of the target area for these 2 waves endings both: so the wave 5 and the wave (5) of a lower level incoming into the wave (5) of a higher level. And REMEMBER that all trends complete when they show the DIV between prices’ tops and the oscillator’s tops in the end of the 5th wave.

This post has been edited by Okhotnikov Dmitriy: 23 January 2011 - 20:49

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