How to Correctly Count Elliott Waves

Counting fractals is part of Elliott wave analysis.
Counting fractals is part of Elliott wave analysis. (Image: Jupiterimages/Goodshoot/Getty Images)

Strategic investment should be guided by both qualitative and quantitative analysis of an investment product. There exist numerous ways for investors to attempt to mathematically predict the performance of a stock or other asset. So-called Elliott waves represent one such methodology. Elliott wave theory, named for its creator, Ralph Nelson Elliott, first emerged in the 1930s. It stresses the impact of predictable "crowd behavior" on short-term and long-term price moves. Interpreting Elliott wave data is challenging, but the potential rewards may be immense.

Count "impulse waves," which separate into five distinct waves. They're characterized by a relatively steep slope of increase or decrease within a short time.

Subtract corrective wave patterns from impulse waves, which are their opposite. Identify corrective waves by their lack of change over a long period of time (producing a flatter line slope). Overlapping waves also indicate corrections.

Mark off the five divisions of impulse waves. A division is marked at the point where the slope changes from negative to positive, or vice versa (in other words, when the price goes from a decline to incline, or vice versa).

Insert an entry trigger after wave 5, when the corrective pattern begins. An entry trigger is the "buy" point, when you enter into an investment. According to Elliott wave methodology, after wave 5, the price of an asset tends to increase.

Count the number of completed wave cycles (going completely from impulse to corrective and back to the first wave of the impulse pattern again) from the entry trigger point (buy) until the exit trigger point (sell).

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