The Elliott Wave Theory - Revised Rules and Guidelines
This paper presents revised Elliott Wave theory rules and guidelines derived from extensive research and practical trading experience. Many of these insights are novel and have not been previously published. Additionally, the reliability of these rules and guidelines will be assessed. The final section provides a critical evaluation of automated Elliott Wave tools and explores future trends in the field.
The three "original" Elliott Wave rules:
I. Wave 2 never fully retraces wave 1,
II. Wave 3 is never the shortest of the three impulse waves (wave 1 or wave 5),
III. Wave 4 never enters the price territory of wave 1,
and some of the guidelines were first defined by R. N. Elliott in the "Nature's Law: The Secret of the Universe" book from 1946. In 1978, the findings were improved and publicized by A. J. Frost and Robert Prechter in the "Elliott Wave Principle: Key To Market Behavior."
Does Elliott Wave Work?
When it comes to Elliott Wave, there are four major "teams:"
1. Traders who've heard about Elliott Wave, maybe tried it, but found it too confusing, complex, or unreliable.
2. Traders who've been relying on Elliott Wave and fully understand its concepts.
3. Organizations that actively promote Elliott Wave through their educational products and services.
4. Companies that have based their entire business model on the Elliott Wave theory by creating specialized software and educational materials.
On the Internet, the first group is the most vocal and influential. Their strong presence may explain the overall negativity surrounding the wave theories. Is it justified? To an extent it is, as my presentation below insinuates.
Although it took me a few years to master the classic Elliott Wave, I no longer scrupulously adhere to all of its rules and guidelines.
Elliott Wave is an impressive prototype where wave patterns, structures, phases, moves, proportions, relations, and degrees constantly occur in the market and have a fractal nature. However, they don't normally happen in the idealized ways they were presented.
As a matter of fact, I can now prove that the Elliott Wave theory about price movement is most of the time incorrect. The price rarely moves in the 5-3 fashion because it typically has multiple contexts.
As a classic Elliottician, you will be able to follow the three cardinal rules to mark all the charts in the world, but in the majority of cases the labeling will not adhere to the relevant guidelines and contexts, which would make it unhelpful in trading.
Does it mean Elliott Wave is useless? Absolutely not! But in order to turn a wave count into a solid trade, one needs to go beyond the prototype and discover other key elements and mechanisms that will consistently work in all trading environments. Some new aspects may be found in the NeoWave and the Harmonic Wave theories, even though adding rigid requirements and complexities is hardly ever the best solution to a problem.
Assuming it is going to take four years to become a Master Elliott Wave technician, there are four stages a student of Elliott Wave may go through:
1 - Fascination (0-2 years) - a feeling of comprehension of price action, reinforced by popular study materials that happen to present mostly the idealized Elliott Wave structures (uncommon in real markets).
2 - Realization (2-3 years) - recognizing the limitations of the tool because too many charts don't really abide by the established rules and guidelines. The more you know, the more possible patterns you can build from incomplete price formations, which can create more confusion or frustration.
3 - Contemplation (3-4 years) - trying to incorporate alternative or novel elements to the wave principle that would help to minimize the number of possible wave pattern scenarios and better explain market behavior.
4 - Decision (4+ years) - if incorporation of the new elements was successful (it could take another couple of years or more), the analyst may achieve a new level of understanding price action. Otherwise, these would be the only choices:
- Abandon the wave theory,
- Continue using the wave theory, but only on select equities that appear to conform to the idealized Elliott waves,
- Continue using the wave theory by just following the rules and ignoring the guidelines as that would be the only way to label most charts, somehow. This is essentially what the "advanced" Elliott Wave pattern detection software does.
If you don't want to to spend years on mastering Elliott Wave or its hybrids, knowing it would still not be nearly enough to decode all price movements, my advice would be to learn only the rules and functional guidelines and apply them to your trading strategy. This basic knowledge should enhance your analytical skills as a trader or an investor and will allow you to communicate with others using the same technical analysis "language."
On the other hand, if you are ready to give yourself a chance of becoming a true price action expert by devoting several years of your life to analyzing charts and devising new concepts, the wave theory may be the most significant foundation in your journey.
One challenge in verifying progress in Elliott Wave analysis is the potential for stagnation. If you are labelling waves in the same fashion you did when you started feeling confident in your understanding of price action, your progress may be limited.
REVISED ELLIOTT WAVE RULES
The Original Rules
The New Rules
[Motive Waves]
I. Motive waves designate the trend and are always a 5-wave structure.
II. A truncation of wave 5 may occur.
I. Motive waves designate the trend and could be a 3-wave or a 5-wave structure.
(1*)
II. A truncation of wave 5 may not occur. (2*)
IMPULSE WAVES
IMPULSE WAVES
I. Wave 2 cannot be a triangle.
II. Wave 3 cannot be a diagonal.
I. Wave 2 can be a triangle.
(3*)
II. Wave 3 can be a diagonal. (4*)
DIAGONALS
DIAGONALS
I. In a contracting diagonal, wave 1 should be the longest of waves 1 through 5.
II. In an expanding diagonal, wave 1 should be shorter than wave 3 and wave 3 should be shorter than wave 5.
III. In a leading diagonal, waves 1, 3, and 5 may either be ALL motive waves or ALL zigzags / combinations.
IV. Wave 2 of a diagonal cannot be a flat correction.
V. Wave 4 of a diagonal cannot be a triangle or a flat.
VI. It is acceptable for wave 4 of a diagonal not to overlap wave 1.
VII. The two channel lines of a diagonal (connecting points of wave 1 with wave 3 and wave 2 with wave 4) must either converge or diverge.
I. In a contracting diagonal, either wave 1 or wave 3 should be the longest.
(5*)
II. In an expanding diagonal, wave 3 should never be the shortest of waves 1 through 5.
III. In a leading diagonal, waves 1, 3, and 5 may be a motive wave or a zigzag / combination.
IV. Wave 2 of a diagonal can be a flat correction.
V. Wave 4 of a diagonal can be a triangle or a flat. (6*)
VI. Wave 4 of a diagonal must always overlap wave 1. (7*)
VII. It is acceptable for one channel line of a diagonal to neither converge or diverge, ie. appear as parallel.
[Corrective Waves]
I. Wave 4 should not overlap wave 1.
II. In a zigzag, a truncation of wave C may occur.
I. Wave 4 should not overlap wave 1 and should not retrace more than 0.618 of wave 3.
(8*)
II. In a zigzag, a truncation of wave C may not occur.
ZIGZAGS
ZIGZAGS
— >
- no change -
FLATS
FLATS
I. Wave B of a flat cannot be a triangle.
II. Wave B of a flat should retrace at least 90% of wave A.
I. Wave B of a flat can be a triangle.
II. Wave B of a flat should retrace at least 80% of wave A. (9*)
TRIANGLES
TRIANGLES
I. "Ascending" and "descending" triangles don't occur in corrective phases.
II. Wave A or wave B of a triangle cannot be a flat correction.
III. In an expanding triangle, wave A should be shorter than wave B.
I. "Ascending" and "descending" triangles occur in corrective phases.
(10*)
II. Wave A or wave B of a triangle can be a flat correction.
III. In an expanding triangle, either wave A or wave B should be the shortest.
WXY / WXYXZ COMBINATIONS
WXY / WXYXZ COMBINATIONS
I. Both WXY and WXYXZ corrections occur in the market.
I. Only WXY corrections occur in the market and WXYXZ don't.
(11*)
FOOTNOTES FOR THE RULES
(1) - A new motive wave consists of only three waves:
(2) - The concept of truncation (as well as, to a lesser extent, "expansion" in flats and "running" in triangles) was presumably born in response to the inability to categorize all price action movements using the basic wave patterns. However, it only partially helped because the additions still don't allow to properly explain all the patterns that are present in the markets today.
(3) - As stated in the original rules, wave 2 of an impulse wave can never be a complete triangle (it can only be a correction with a triangle as a subwave B of a flat or a zigzag, subwave C, D, or E of a triangle, or subwave X, Y, or Z of a combination). Nevertheless, patterns with wave 2 as a complete triangle may happen, provided some other conditions are met.
(4) - Wave 3 of an impulse wave is a diagonal. An alternative interpretation would be a WXYXZ correction, but I don't believe they exist (refer to note 11 below):
(5) - On a linear vs a logarithmic scale, the height of the same waves may differ. It may happen that wave 1 of a contracting diagonal is longer than wave 3 on a linear scale, but shorter on a log scale. As a result, the original rule may be confusing and quite often incorrect.
(6) - When wave 4 of a diagonal is a triangle or a flat, then ANY part of the wave 4 correction (not only the last subwave) may enter the price territory of wave 1.
(7) - Wave 4 of a diagonal must overlap wave 1:
(8) - Wave 4 not overlapping wave 1 only applies to an impulse wave and doesn't apply to a diagonal which should always overlap wave 1. Sporadically, mainly in expanding diagonals, no wave of a correction in wave 4 has to even touch the 2-4 trendline.
Incidentally, there is a lot of misconception, even among CEWA (Certified Elliott Wave Analyst), about where wave 4 in an impulse wave is allowed to travel. The most widely circulated (aka "official") rule is that "wave 4 should never enter the price territory of wave 1." However, the rule should read: "wave 4 should never end in the price territory of wave 1." If you plan to use the classic Elliott Wave, the distinction is important because it can nullify or uphold a developing impulse wave when wave 4 is a flat or a triangle. It is illustrated below:
(9) - When wave B of a flat correction is a contracting triangle, it is acceptable to use wave A of the triangle, as opposed to the end of the correction (ie. wave E), to measure the 80% retracement.
(10) - According to the official Elliott Wave rules, there are three types of triangle corrections: contracting, expanding, and barrier. However, none of these triangles allow for the ACE trendline of the triangle to be horizontal in the bullish sequence ("descending triangle") or the bearish sequence ("ascending triangle"), even though R.N. Elliott himself recognized them in his original work:
(11) - Having scanned and reviewed close to a dozen of WXYXZ combinations labelled by seasoned Elliott Wave analysts (such patterns are unique), I was able to relabel all of them from a WXYXZ correction to either a WXY or an ABC correction without violating any rules or guidelines. In most cases, at least one of the waves originally labelled as wave W, X, Y, or Z was possible to be relabelled as a diagonal or a zigzag correction with a triangle as wave B and/or a diagonal as wave A or wave C. In my opinion, there is no need to add a new type of correction like a WXYXZ (emphasizing that "they are very rare") if price action can be interpreted in a simpler way. Furthermore, just like a motive wave, a WXYXZ correction has 5 primary waves, which directly contradicts the premise that motive waves consist of 5 subwaves and corrective waves consist of 3 subwaves.
Here is an example of a daily S&P500 chart that may be labeled in a complex way (as a WXYXZ correction) or in a simple way (as a zigzag correction where wave A = a leading diagonal, wave B = zigzag, wave C = an impulse wave):
THE RELIABILITY OF THE ELLIOTT WAVE GUIDELINES
GUIDELINES |
|
RELIABILITY |
Motive Wave vs Corrective Wave - a wave count of 5, 9, 13, 17 with few overlaps is likely a motive wave, while a wave count of 3, 7, 11, 15 with numerous overlaps is likely a corrective wave. | |
HIGH |
Wave Equality - two of the motive waves in a 5-wave sequence as well as wave A and wave C (zigzag) and wave W and wave Y (combination) tend to be equal. | |
MEDIUM |
Impulse Wave Extension - at least one of the waves in an impulse wave should be extended. Two extended waves are unusual and three are very uncommon. The most likely wave to extend is wave 3, followed by wave 5; wave 1 is rarely extended. An extended wave in a lower degree is often the same wave as the extended parent wave. Subwave 2 of an extended wave should not go beyond the base trendline (0-2); if it does, it may be still a part of a correction. | |
HIGH |
Alternation (Impulse Waves) - wave 2 and wave 4 tend to alternate between the "sharp" and the "sideways" correction. (12*) | |
MEDIUM |
Alternation (Corrective Waves) - wave A, and/or wave B, and/or wave C tend to alternate with one another. A zigzag correction alternates with a flat, a triangle, or a combination; a flat correction alternates with a zigzag, a triangle, or a combination; a triangle alternates with a zigzag, a flat, a combination, or (rarely) another triangle; a combination alternates with a zigzag, a flat, or a triangle. | |
MEDIUM |
The Depth and Time of Wave 4 - a correction of an impulse wave tends to retrace to the territory of the previous wave 4 of lesser degree. Deep retracements of wave 4 (up to .618 of wave 3) typically last a relatively short period of time while shallow retracements (.382-.5) last longer to complete. | |
MEDIUM |
The Channelling Technique - a projection that signals the potential end of wave 4 and wave 5 for the impulse waves (the "Base Channel" and the "Trend Channel") and the potential end of wave C, wave Y, and wave Z for corrective waves (the "Corrective Channel"). When the price closes outside the 2-4 trendline channel, it strongly suggests the impulse wave is over and the correction phase has started. When the price closes outside the corrective channel, the correction may be finished. (13*) | |
MEDIUM |
The "Right Look" - both impulse and corrective waves should look proportional to the waves of the same degree. | |
HIGH |
The Slope - in an impulse wave, wave 3 usually has the steepest slope out of the five waves. Regarding the corrective waves: in a zigzag, wave C should be less steep than wave A (unreliable when wave B is a triangle or when wave A is a leading diagonal); in a flat, wave C should be steeper than wave A and wave B (whenever wave B is steeper than wave A, wave C is frequently truncated); in a triangle, wave A is usually the steepest; in a WXY correction, wave X tends to be steeper than wave W and wave Y should be less steep than wave W; in a WXYXZ correction, the first wave X and wave Y are usually steeper than wave W and wave Z is usually less steep than wave Y. | |
HIGH |
Corrections Should End Below the Motive Waves - waves 2/4/B/D/X (also called "reactionary waves"), in contrast to waves 1/3/5/A/C/E/W/Y/Z (called "actionary waves"), must end below the wave they are correcting. For example, if wave 4 is a triangle, the subwave E (the end of the correction) should end below the end of wave 3. | |
HIGH |
Correction after Extended Wave (5) - when wave (5) is extended, a subsequent correction should retrace to wave 2 of this extended wave, not to wave (4) of the wave of the previous degree like when wave (3) is extended. | |
MEDIUM |
Duration of Corrective Waves - in a trending move, a corrective wave should last longer than its proceeding motive wave. | |
MEDIUM |
Wave Personality - waves 1,2,3,4,5 (impulse / diagonal), ABC (zigzag / flat), ABCDE (triangle), and WXY / WXYXZ (combinations) manifest certain characteristics reflecting the mass psychology of the traders. | |
HIGH |
The Fibonacci Relationships - the application of the Fibonacci numbers and sequence (wave retracements / extensions / ratios / dividers) to Elliott Waves. (14*) | |
LOW |
Volume - in a motive phase, volume tends to be the highest in wave 3; in a corrective phase, volume usually declines in wave C or E. Late in a corrective phase, a decline in volume is often accompanied with a decline in selling pressure and possible trend reversal. | |
MEDIUM |
Throw-over / Throw-under - a throw-over / throw-under is a brief break of the trendlines connecting waves 1-3 or waves 2-4 of either the motive wave or the diagonal. When wave 4 makes a throw-under from the 2-4 channel, then wave 5 usually makes a throw-over of the 1-3 channel. Within the 1-3 channel, if wave 5 approaches its upper trendline on declining volume, it indicates that it will end at or below the trendline; if volume is heavy, it indicates a possible throw-over. In an ending diagonal, a "throw-over" in wave 5 can occasionally be signaled by a preceding "throw-under," either by wave (4) or by wave 2 of wave (5). To determine the end of an ending diagonal, look for: a throw-over in wave 5 and a corresponding spike in volume. As long as no Elliott wave rules are violated, there is no set limit on how far wave 5 can go in a throw-over of a diagonal. | |
MEDIUM |
Flat vs Triangle - wave A of both a flat and a triangle correction always has 3 waves. The correction is most likely going to be a flat when wave B is less steep than wave A. | |
MEDIUM |
Rare Diagonals - diagonals (especially the leading diagonals) are rare pattern formations. | |
LOW |
Diagonals and Extended Waves - in an impulse wave: if wave 1 is a diagonal then wave 3 is likely to be extended; if wave 3 is not extended then wave 5 is unlikely to be an ending diagonal. | |
MEDIUM |
Sharp Reversal after Diagonals - a completion of an ending diagonal in wave 5 or wave C may result in a swift reversal in the opposite direction. The reversal should retrace the whole diagonal price movement within 1/3 - 1/2 of the time the diagonal was formed. | |
HIGH |
An Ending Diagonal after a Triangle - a triangle in wave 4 / wave B is often followed by an ending diagonal in wave 5 / wave C. | |
MEDIUM |
A Triangle Before the Final Wave - a triangle always occurs before the final wave of one larger degree (ie. as wave 4 in a motive wave, wave B in a zigzag or a flat correction, wave E in a triangle correction, and wave X in a complex correction). A triangle may also act as a "transition point" between two wave patterns. | |
HIGH |
The Post-Triangle Thrust Measurement - if wave 1 or wave 3 is extended, a triangle in wave 4 provides trade targets of wave 5 by way of a thrust measurement. If the post-triangle thrust measurement is exceeded, wave 5 may be extended. The measurement works best for contracting, running, and barrier triangles, as opposed to expanding triangles. | |
MEDIUM |
Subwaves in Triangles - most of the subwaves of triangles are zigzags, though can be multiple zigzags, or a triangle (typically in wave E or wave C). One subwave of a triangle should be complex. An expanding or a barrier triangle is not very likely to have a triangle as one of the subwaves. | |
HIGH |
Subwave A in Triangles - in a triangle, subwave A (regardless of its size) tends to be the strongest / the steepest part of the triangle pattern. | |
HIGH |
Subwave E in Triangles - in a triangle, the subwave E may either overshoot or undershoot the AC trendline (this price action is often caused by a news event). In a contracting triangle, subwave E must never exceed the end of subwave C. | |
HIGH |
Triangle in Wave 4 - wave 4 of a motive wave can either be a full triangle or have a triangle as one of the subwaves (subwave B in a zigzag or a flat, or subwave X, Y, Z in a combination) (15*) | |
HIGH |
Timing in Triangles - with respect to contracting and barrier triangles, the ideal length of a triangle in relation to time should be equal to 60% of the distance from the beginning of the triangle to its apex. This serves as a guideline for determining whether a triangle is too short or too long. The apex point of a contracting triangle (the crossover of the trendlines connecting waves A-C and waves B-D) will often coincide with the end of wave 5 of an impulse wave or the end of wave C of a corrective wave (when wave B is a triangle). (16*) | |
MEDIUM |
Correction Styles - there are two styles of Elliott Wave corrections: sharp and sideways. Sharp corrections (zigzags / double zigzags / triple zigzags) are fast and deep; sideways corrections (flats, triangles, combinations) are usually shallow and take up more time. | |
HIGH |
Complex Corrections - there never appears to be more than one zigzag and more than one triangle in a combination (WXY / WXYXZ). In general, Wave X should break the A-B trendline of wave W and it often peaks at wave B of wave W. In a double zigzag, wave X should not move beyond the start of wave W; if wave X is a zigzag, wave X should retrace 50% to 80% of wave W. In a double or a triple threes, wave X should retrace at least 80% of wave W and will often equal about 123.6% of wave W. | |
HIGH |
Expecting a Complex Correction - when wave A of a correction fails to breach the waves 2-4 trendline of the motive wave (even if the entire corrective wave adequately retraces the wave or even excessively corrects it), one should expect a complex correction. | |
MEDIUM |
Truncation - a truncated wave (typically wave 5 in a motive wave and waves C, E, Y, or Z in a corrective wave) suggests a strong underlying pressure for the move in the opposite direction. A truncated wave must contain the necessary structure and subwaves. A truncated wave 5 of an impulse wave and a truncated wave C of a zigzag should retrace at least 80% of wave 4 / wave B. (17*) | |
HIGH |
Momentum Divergence in Wave 2 vs Wave 4 - in a motive wave, it is common for wave 2 and wave 4 to signal reverse divergence in a momentum indicator like the Relative Strength Index (RSI). It means that while the price in wave 4 is higher than in wave 2, the RSI of wave 4 is lower than the RSI of wave 2. | |
HIGH |
Wave Degrees - there are 9 wave degrees in Elliott Wave: Grand Super Cycle, Super Cycle, Cycle, Primary, Intermediate, Minor, Minute, Minuette, and Sub-Minuette. They allow to identify locations of the waves in the market. (18*) | |
HIGH |
Wave Extension in Commodities - in commodities, wave 5 and wave C tend to extend. | |
HIGH |
The Price Chart Scale - it is advised to use both an arithmetic and a semi-log scale chart when counting waves. | |
HIGH |
Line vs OHLC vs Candlestick Chart - since Elliott Wave was developed on a close-only (line) price chart, it is acceptable to use the line chart only and ignore the OHLC (Open-High-Low-Close) or candlestick charts. (19*) | |
LOW |
Primary Count vs Alternate Count - when an unfolding pattern is ambiguous, it's possible to map it out in different ways, so it's recommended to label them both. (20*) | |
MEDIUM |
Elliott Wave Patterns vs Popular Chart Patterns - Elliott Wave patterns often correspond with the popular chart patterns. (21*) | |
HIGH |
FOOTNOTES FOR THE GUIDELINES
(12) - The guideline of alternation states to expect a difference in expression of similar waves. If a potential bigger complex correction starts out simple at first, then expect complexity to increase during the following parts of the correction (i.e. simple - complex - most complex). The reverse can also apply, but it is more rare. Alternation may also appear in the wave's size, length, duration, extensions, or complexity. Waves tend not to alternate in the corrective subwaves of diagonals and extended waves.
(13) - Illustrations of the Base Channel and the Trend Channel in impulse waves along with the Corrective Channel in zigzags and flats:
The Base Channel and the Trend Channel
The Corrective Channel for Zigzags and Flats
(14) - The Fibonacci relationships are very reliable When a price action pattern is characterized by a close-to-ideal Elliott Wave structures. However, such perfect structures are rare in real markets; the Fibonacci numbers may be more accurate on larger time frames.
(15) - Possible locations of a triangle in a wave 4 correction:
(16) - The apex of a contracting triangle in an impulse wave:
(17) - The guideline of a swift move in the opposite direction after a truncation is extremely reliable if you believe in the idea of truncated waves; otherwise, it has no meaning because the move in the opposite direction is a "normal" start of a new phase. Wave truncations are closely related to the hypotheses of "orthodox tops" and "orthodox bottoms" where the ending points of the pattern don't match the actual price extremes.
(18) - Knowing the current position of a wave within a larger pattern is important because it decides the next fractal move. Partial or insufficient data (especially applicable to IPOs / newly traded securities) can be misleading and risky to trade:
(19) - When working with a line chart, a lot of vital information relevant to price action interpretation is omitted. It is strongly recommended (despite being more difficult to learn) to use either a candlestick or an OHLC chart because line charts ignore the "wicks" (price spikes):
(20) - The preferred wave count is called "primary" and secondary counts are called "alternate." Maintaining both primary and alternate counts may be needed when there is limited price movement information available, which doesn't allow to decipher the primary trend. In all other cases, supporting an alternate count may hinder the whole analysis:
(21) - Comparison of Elliott Wave patterns and their expected positions within a larger formation with popular chart patterns used by technical analysts and traders.
PART 1 - double top, double bottom, triple top, triple bottom, head & shoulders, inverse head & shoulders, bullish flag, bearish flag, megaphone:
PART 2 - rising wedge, falling wedge, triangle / pennant, cup & handle, rounding top, rounding bottom:
About Automated Elliott Wave Software and Tools
Are the modern Elliott Wave tools that auto-generate wave counts worthwhile? In short, no. They just connect the pivot points of the recent price movements that are in line with the rules, without any serious consideration to the guidelines.
The relevant simplicity of the three rules allows for a lot of a flexibility in interpretation of price action. However, the more predictions, the less effectiveness. Moreover, this simplicity cannot be transferred into a competent computer or AI analysis due to nuances of the Elliott Wave theory, such as:
- All, some, or no waves can be extended,
- Extensions can exist within extensions,
- Waves may or may not alternate,
- Waves may or may not truncate,
- The starting point of a wave count may be different from the respective top or bottom of the price,
- A mode of wave development (motive / corrective) may be switched by a single overlap of a wave,
- Volume may be the highest in either wave 3, wave 5, or even wave 1 (in a diagonal),
- Trendlines connecting validation points of diagonals or triangles may cross the structure more than once,
- Breaking a trend channel (via a "throw-over" or a "throw-under") will many times contradict other technical confirmations,
- One subwave of a motive wave can be up to 4 times longer than another subwave,
- It is possible for a wave pattern to break its own rule and still be a valid pattern (eg. a "skewed triangle" where subwave D goes beyond subwave B, or a contracting triangle where subwave E "temporarily" exceeds the extreme of subwave D),
- A completed truncated pattern may be correctly classified as two different patterns on the same time frame,
- A slope of a presumably final wave isn't a dependable indicator of a trend reversal or continuation,
- Corrections and invalidation levels may be as shallow as 16% or as deep as 99%,
- A single correction may be composed of up to three different wave patterns,
- A corrective wave may go beyond the highest / lowest point of the preceding motive wave,
- A final corrective wave may be the same pattern as a non-corrective wave (eg. wave C in a flat correction),
- There are no established time limits for impulse waves, diagonals, or corrective waves,
- The first or the last wave of a contracting diagonal may be longer than all the other elements of the pattern,
- A wave pattern may be validated or invalidated by the chosen type of price scale (linear vs logarithmic) or the kind of chart (line vs bar vs candlestick),
- Invalidation of a single wave or a pattern may prompt a recount of the whole formation,
- It is often necessary to change the time frame to discern waves,
- It is commonly possible to create a zigzag pattern from an impulse wave,
- A continual recount of waves and patterns is required to verify the validity of the primary scenario,
- There is no "wave pattern rank" which would help prioritize the progress of incomplete waves,
- It is virtually impossible to accurately label wave degrees unless all historical data is available,
- A subjective bearish or bullish human bias may distort the whole analysis,
- Mass psychology doesn't work the same as it did when the theory was first discovered; nowadays, it is shaped by dynamic, constant, and multi-dimensional forces,
- Hedge funds and their AI machines have figured out well-known patterns and may use this knowledge, alongside with a bid-ask spread and volume, to manipulate them into new patterns.
The following are four examples of wave labeling that comply with all the Elliott Wave rules, but disregard the guidelines:
The image below shows bad (but very common) examples of wave labels marked by an automated Elliott Wave forecasting and trading software:
One can argue that adding and processing more guidelines on top of modern AI learning systems is going to make the software better. It may be true, but it won't help in forecasting high probability price movements if the established rules and known guidelines are wrong, incomplete, too lenient, or too strict.
Elliott Wave - The Future
R. N. Elliott proposed that the markets move in accordance with the rules of nature and mass psychology. If that's the case, it's only logical to assume that the nature constantly evolves. The components (wave structures) don't change, but the whole ecosystem never remains stable and becomes more unpredictable. Immediate access to information, advanced trading tools, computer models, and algo/quant trading have severely distorted the idea of "mass psychology."
In result, relying on the classic Elliott Wave theory that has not been designed to work in today's sophisticated environment may not be the best option for traders and analysts. It's not because the wave theory is invalid, but because there will be less and less wave structures that follow the conventional Elliott Wave rules and guidelines. It can be clearly observed in the cryptocurrency market where it is often impossible to label waves without violating the core rules.
From a technical standpoint, the differences and personalities of the motive wave vs the corrective wave will blur even further. More and more waves will overlap. The shapes of the established wave patterns will less and less resemble the ideal structures; trendlines, Fibonacci ratios, and invalidation levels will become even less reliable. Rule III about wave 4 never ending in the price territory of wave 1 will be depreciated (especially by the mainstream computer software which tends to ignore the wicks). It will be a challenge to come up with one leading price action scenario.
To stay relevant, the theory needs to be individually updated by those who use it. Some new knowledge has already been discovered and adapted by the powerful computers, but it's never going to be revealed to the public.