
Understanding patterns in crypto trading is crucial as it helps traders predict price movements. When we discuss patterns, we should not limit the scope of the discussion around the general patterns like triangles or head-and-shoulders. Every serious discussion about advanced patterns starts from the topic of Elliot Wave Theory. What do you know about this concept? Even if itโs the first time that you hear this name, donโt worry. In this lesson, we will discuss everything you should know about this amazing pattern.
Letโs start the discussion from the concept of โWavesโ.
1. Whatโre Waves
As you know, the crypto market is highly volatile, so it never moves steadily. โWavesโ refer to the recurring patterns of price movements that can be observed on price charts. These patterns are not smooth or steady but rather consist of phases of intense buying or selling (upward or downward movements) followed by periods of price correction (reversals or adjustments).
2. Elliott Wave Theory: Whatโs You Should Know
Do waves follow any specific pattern? Yes, they do. At least, thatโs what the Elliot Wave Theory suggests.
As per the theory, market price movements follow a repetitive pattern of five waves in the direction of the main trend (up or down), followed by three corrective waves.
These waves help traders predict future price movements by identifying where an asset is in this pattern.
2.1. The Origin of Elliott Wave Theory
The Elliott Wave Theory was developed by Ralph Nelson Elliott in the 1930s. Elliott, an accountant turned researcher, found that markets move in predictable waves during both up and down trends. He shared his insights in the book โThe Wave Principleโ in 1938.
3. Elliott Wave Pattern Explained
The Elliott Wave Pattern consists of eight waves in total, grouped into two sets of five and three.
The first five waves, labelled 1, 2, 3, 4 and 5, follow the market trend, with waves 1, 3, and 5 driving the price up or down vigorously.
The last three waves, labelled A, B, and C. represent corrections after waves 5. A and C are larger corrections, while B is smaller.
4. Identifying Elliott Wave Pattern: The Three Golden Rules
Identifying the Elliott Wave Pattern is simple. You just check whether a pattern fulfils the below given golden rules or not.
- Wave 2 should not wipe out all of the gains made in wave 1. It can pull back somewhat, but it must leave some progress intact.
- Among the three powerful waves (1, 3, and 5), wave 3 should be the longest. It is the one that usually makes the most significant move.
- Wave 4, which is a corrective wave, should not go back to where wave 1 began. It is a pullback, but it should not erase all of the initial progress made in wave 1.
5. What Elliott Wave Theory Tells About Crypto Trading Psychology
The Elliott Wave Theory reveals how market psychology influences crypto trading.
- Wave 1 begins with a few traders in denial.
- Wave 3 is strong as many join the trend.
- Wave 5 sees latecomers driven by emotions, often leading to FOMO buying.
Afterwards, a correction (ABC) offers better prices.
6. How To Use Elliott Wave Pattern in Crypto Trading
To use the Elliott Wave Pattern in crypto trading:
- Identify Potential Waves
Look for patterns of price movements on crypto charts
- Count Waves
Label them as 1, 2, 3, 4, and 5 for the upward trend and A, B, and C for the correction.
- Follow the Rules
Ensure waves relationships adhere to the Elliott Wave Rules, such as not retracing more than 100% or wave 3 being the longest.
- Make Trading Decisions
Use these patterns to make informed decisions on buying, selling or holding crypto assets, considering both the impulse waves and correction waves.
7. Endnote
The Elliott Wave Theory, developed by Ralph Nelson Elliott in the 1930s, provides a structured framework for understanding market behaviour. It recognises the repetitive nature of price movements in the form of waves and offers valuable insights into market psychology. By identifying and applying these wave patterns in crypto trading, investors can make more informed decisions, anticipate price movements, and navigate the volatile crypto market with greater confidence.
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