The Elliott wave principle is a technical analysis method that traders use to analyze the market and identify trends by using the relationship between highs and lows, applying a system developed by Ralph Nelson Elliott in the 1930s. Almost 100 years have passed now since it was developed, and the markets have obviously grown and changed. The principle, however, is rooted in simplicity and has stood the test of time with three very simple, clear rules.
- Wave 2 never retraces more than 100% of wave 1.
- Wave 3 cannot be the shortest of the three impulse waves, i.e., among waves 1, 3 and 5.
- Wave 4 does not overlap with the price territory of wave 1, except in the rare case of a diagonal triangle formation.
The Elliott wave theory main pattern outlines that the market advances in 5 waves, and each subdivision is also 5 waves in compressed degree cycles.
If we look at the chart from the beginning of the cycle, there are 3 major phases, labeled as (1), (2) and (3). The addition of a (4) and a (5) phase makes the entire structure what’s known as an “Impulse.” By nature, it is always either wave 1, 3 or 5 which will extend and in most of the cases, wave 3 is the extended one.
Looking at the same chart, when the cycle ends and then corrects back in 3 waves, it is what is called an ABC pattern, or 3 cycles against the main cycle, that comes in waves of 5, 3 and 5.
Elliott’s concept has been refined over the years to mitigate its subjective nature and improve the overall predictive modeling utility.
One of the new rules is the one that makes the difference between an Impulse and the ABC extension. If wave 3 or wave C passes the 1.618 Fibonacci level, it means that it is an impulse over an ABC. By sequences, both structures are the same until wave 3 or wave C ends. The ABC extension typically appears as two separate 5-wave moves with a 3-wave connector, as shown below – what we all a 5-3-5 structure.
As we can see it is the same as the first 3 legs in the previous 5 waves chart. In our new concept, the difference between them is that in an Impulse, wave 3 needs to pass the 1.618 extension between wave 1 and wave 2, and at that moment the ABC pattern will become an Impulse by rule. This rule is very simple and it will save a lot of subjective arguments by traders to help them pick the right side of the market.
For years, we have posited that the S&P 500, as evidenced by the SPDR ETF
We are still waiting for confirmation about the $318.00 level in SPY, which is only 24 points away at the time of writing. If it manages to reach that area, we may be ending a cycle in the Supercycle from 2009, but the Grand Supercycle calls for an extension higher after a pullback.
SPY Monthly Elliott Wave Chart 04.29.2019
The $318.00 level is the 1.618 Fibonacci extension between (I) and (II), achieving that level will mean the difference between an ABC or Impulse from the all-time lows.
We believe $318.00 will open the door to $400.00 in the years to come and provide the beginning of another multi-year cycle.