Elliott Waves Theory – Trading Different Types of Extended Waves
An impulsive wave has a minimum one extended wave and they are being classified based on the wave that it is extended. There are no less than four types of impulsive waves and they all related to the wave/waves that is/are extended.
The purpose of this article is to correctly identify the types of impulsive wave and to establish what is the correct way to interpret and trade them. You will find out that, on top of what was mentioned so far as being valid for all impulsive waves, the analysis for impulsive waves types can go even deeper in order to find profitable trades.
Types of Impulsive Waves
In order of their importance and based on the extended wave/waves, there are four types of impulsive waves: 3rd wave extension impulsive waves, 1st wave extension, 5th wave extension, as well as double extended impulsive waves. All of them are common on the Forex market, with the 5th wave extension and the double extended waves to occur less frequently.
3rd Wave Extension Impulsive Waves
By far, the favorite wave to be extended in any five-waves structure is the 3rd wave. One cannot put this in percentages, but I would say that more than 70% of impulsive waves are falling into this category.
In a 3rd wave extension impulsive wave, the third wave is the longest, or, the one that stands out of the crowd. The minimum extension here is 161.8% and usually this one refers to the length of the 1st wave, added from the end of the 2nd wave.
Depending on the type of correction that forms for the 2nd wave, the third wave can travel more or much more than 161.8% level. Therefore, a correct interpretation will always involve the structure of the 2nd wave.
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The standard way to trade such an impulsive wave is to trade the extension. Of course that it is extremely unlikely that the whole extension will be traded, as no one can pick exactly the top or a bottom of a move, but most of it should be enough. One should consider that if such an impulsive wave is forming on a bigger time frame like the daily chart or beyond, then there are plenty of pips to be made by riding the extended wave.
A 3rd wave extension impulsive move can be traded as price action is unfolding, but the move that follows can be interpreted and traded as well. As a rule of thumb, after a 3rd wave extension is completed, price will always return to the end of the 3rd wave. Therefore, a new trade can be found even after the impulsive wave finished.
1st Wave Extension Impulsive Waves
Judging by the name of this impulsive wave, the first wave must be the longest. If you go back on what we’ve said so far about impulsive waves, namely that the 3rd wave cannot be the shortest wave, it means that the 1st wave is mandatory to be longer than 161.8% when compared with the 3rd wave.
This way, we can safely say the 1st wave is the extended wave and the whole five-waves structure is called a 1st wave extension impulsive wave. In such patterns, the 2nd wave plays an important role, as it cannot retrace much into the territory of the 1st wave.
More exactly, look for the 2nd wave to retrace maximum into the 38.2%-50% territory of the 1st wave. That being the case, we have an entry for a trade that should have a target less than 61.8% of the length of the 1st wave, and a stop loss shy below the 50% retracement level of the 1st wave.
Price action to follow such an impulsive wave not only that will return to the end of the 3rd way, but will move all the way beyond the end of the 4th wave as well. This tells much about the power of this pattern when it comes to predict future price levels.
5th Wave Extension Impulsive Waves
These types of impulsive waves are extremely difficult to be traded and, as a consequence, traders will notice them only after the fact. It is common that, when the 5th wave extends, margin calls are being triggered as the vast majority of traders are caught on the wrong direction.
The cause for them being difficult to anticipate comes from the nature of the first four waves as they are resembling a corrective move than ended. Such a confusion ends up with traders being lined up on the other side of the market, only to see price exploding in the opposite direction.
However, even if a 5th wave extension is difficult to be traded when it is actually forming, it can be traded, and with quite some success, after it ends, as price will always retrace minimum 61.8% of the 5th wavelength. This means that the way to trade this type of impulsive wave is to take a Fibonacci Retracement tool, measure the fifth wave in order to find out the 61.8%, and stay for that target to come.
Double Extended Impulsive Waves
As the name suggests, these impulsive waves are having not one, but two extended waves. The only waves subject to being extended here are the 3rd and the 5th waves.
Like it was the case with the 5th wave extension impulsive wave, there’s no way how to know in advance that the market will form a double extension. This means that usually a trader will be stopped first, but then will recover all the losses by reversing the original trade.
A double extended impulsive wave will have the 3rd wave almost equal with 161.8% of the 1st wave, and the 5th wave almost equal with 161.8% of the length of the 3rd wave. Useless to say that, if caught on the wrong side of the market when this pattern unfolds, chances of survival are really slim.
These are all the types of an impulsive wave a market can make and their correct interpretation depends very much on correctly interpreting which wave extends. As impulsive waves are not that common on the Forex market in particular, and on any financial product in general, the focus should turn on corrective waves, their types and structure, and the way to trade them.
When it comes to corrective waves though, they are more numerous and complex and, if impulsive waves seem difficult to understand, then corrective waves will bring even more confusion. The key to success comes from practicing on a daily basis, as this is the only way these rules will make sense and the whole Elliott Waves theory will produce meaningful results.
Other educational materials
- What is Elliott Waves Theory?
- Defining Impulsive Waves
- Defining Corrective Waves
- Use the Fibonacci Extension Tool in Elliott Waves Theory
- Different Fibonacci Levels Important When Trading with Elliott
- Bill Williams – How to Use Williams Indicators When Trading Forex
Recommended further readings
- Stock Market Multi-Agent Recommendation System Based on the Elliott Wave Principle, Monica Tirea, Ioan Tandau, Viorel Negru
- Who is R.N. Elliott and Why is He Making Waves?, Fred Gehm, Financial Analysts Journal, January/February 1983, Volume 39 Issue 1