On Trading with The Elliott Wave – The Basics III we will examine Impulsive wave setups
Impulsive waves
The standard technique is to enter on a break of the high or low of the lower order 5th wave. This breakout defines a point of invalidation of the current trend because the last low or high has been broken.
Fig. 8 shows the complete entry setups for longs and shorts, We see that the entry is executed at a breakout of wave [v] to the upside/downside. This breakout invalidates the current trend, as it fails to make new lows/highs.
Bull and bear Diagonals
According to Frost and Prechter, A diagonal is a motive pattern. But it cannot be qualified as an impulse because it holds corrective characteristics. It’s a motive pattern because its retracements don’t fully reach the preceding sub-wave, and the third sub-wave is never the shortest. However, diagonals are the only five-wave structures in which its fourth wave moves into the price area of wave one. Also, its internal waves are three-legged structures. This pattern substitutes an impulse at the corresponding location.
Ending Diagonal
An ending diagonal is a substitution of the fifth wave, usually, when the preceding move has gone too far and fast, according to Elliott. A small percentage of diagonals appear in C-waves also. These are weak formations. According to Frost and Prechter: “Fifth wave extensions, truncated fifths, and ending diagonals all imply the same thing: dramatic reversal ahead”.
There are three ways to set up a trade on ending diagonals. The first and most conservative is to wait for the break of the wave 4 extreme Fig. 9 – (2). You gain precision at the expense of the reward-to-risk ratio. You could improve that ratio by entering the trade at (1) at the breakout of the diagonal trendline connecting wave 2 and wave 4. The third way is a combination of the former two. You start taking a fractional position at (1) and, then add to the position when it breaks levels at (1).
On the next article, we will write about ZigZag Corrections
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