In Elliott Wave theory, the hypothesis suggests that there are eight waves in any cycle. The “Cycle” could be classified as the first leg in a primary bull market, for example. See the diagram below.
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- Wave 1: Impulse Wave – the first sign of strength in a new market uptrend
- Wave 2: Corrective Wave – a correction in the uptrend
- Wave 3: 2nd Impulse Wave – another surge upwards – usually different in length to the 1st impulse wave
- Wave 4: 2nd Corrective Wave – the next correction – again different in length to the first corrective wave
- Wave 5: 3rd and often longest Impulse Wave – this indicates a top in the primary cycle
- Wave A: 1st Wave of correction of the primary cycle – a major pullback usually consists of ABC
- Wave B: 2nd wave of correction (pullback of corrective move)
- Wave C: Correction of primary wave completed, and ready for the next leg up.
Using Elliott’s theory is not an exact science, and one does need to use a little imagination (squint your eyes, tilt your head); however, it does prove useful for reference.
See the next chart for how to apply “basic” Elliot Wave Principles to the current S&P 500 move.
As you can see, this S&P 500 move in 2009 is actually classic textbook stuff. Practice trying to spot the waves in the market; the more you try, the easier it becomes.
We literally scratched the surface of Dow Theory, and Elliott Wave Theory for further reading try: