As we said earlier, since Elliott invented the wave theory, Prechter and others have dominated Wall Street with this theory and succeeded in becoming gods. Maybe everyone will ask, why is the wave theory so magical?
We know that in order to succeed in the securities market, three problems must be solved, namely: the direction of the market, the space of the market and the time of the market. In any current analysis method, it is very difficult to solve these three problems at the same time, but the wave theory has done it, so it is so magical. In Elliott's words, that is the wave shape, amplitude ratio, and duration . Among them, the shape of Yibo is the most important, which will be described in detail below.
1. Wave shape
Summary of 8 Waves
As we all know, the Dow Theory puts forward the concepts of main trend and corrective trend (wave 1 and wave 2 above in Figure 1). Elliott refined on the basis of Dow Theory: a main trend and a correction trend constitute a complete cycle. The main trend is called the impetus wave, the main wave, usually composed of 5 small waves (1, 2, 3, 4, 5); the correction trend is called the correction wave, the secondary wave, which consists of 3 small waves (A, B , C), see the lower part of Figure 1 for details. Note: Impulse waves do not necessarily refer to rises, but also to falls; similarly, correction waves do not necessarily refer to falls, but can also be rebounds.
Figure 1: The Dow Theory's Two Big Waves and the Wave Theory's Eight Waves
Furthermore, Elliott believes that every complete cycle, whether it is a bull market or a bear market, exhibits a certain basic rhythm and pattern. In a cycle of the bull market, the first 5 waves are driven, and the last 3 are adjusted; and in the first 5 waves, the 1st, 3rd, and 5th, that is, the odd-numbered waves are driven to rise (this is what we usually say The three legs of the bull market), the second and fourth, that is, the even-numbered waves, belong to the adjusted decline. In a short market, it does the opposite. Here, we can see: 1. The wave theory is composed of 8 waves; 2. There are two basic types of waves, namely the propulsion wave 5-3-5-3-5 and the adjustment wave 5-3-5 .
What do 5 and 3 mean here? Let's look at Figure 1 again. The upper part of Figure 1 represents the main trend (1) and secondary trend (2) in the Dow Theory, while the lower part is the 8 wave cycles (1, 2, 3, 4, 5, A, B, C). Here, we can clearly see that, in fact, the 8th band of the wave theory is a subdivision of the two big waves of the Dow theory! And subdividing waves into smaller waves is the core part of wave theory, which is what we usually call "waves in waves". Generally speaking, impulsive waves can be subdivided into 5 waves, while adjustment waves can Divide into 3 waves. By analogy, the two big waves of the Dow Theory can be subdivided into 8 waves of the Wave Theory, and the 8 waves can be subdivided into 34 waves, and the 34 waves can be subdivided into 144 waves……………………………………………………… Infinity, please refer to the figure 2 and 3.
Figure 2: 8 waves can be subdivided into 34 waves
Regarding the structure of the individual waves themselves, it is important to examine their size. In Dow Theory, we know that trends have many levels of scale. Elliott divided the scale (or degree) of the trend into 9 levels, which can cover the ultra-long period of 200 years, down to the tiny scale that lasts only a few hours. It is crucial for us to remember that no matter what size trend we are studying, its basic eight-wave cycle is always the same.
In fact, we can understand it this way: because the Dow Theory always divides the trend into two waves, the largest second waves are waves ① and ② of the Dow Theory; then these two waves of the Dow Theory are divided into 8 If there is a small wave, it becomes the wave theory. Then, these 8 small waves are subdivided, and a total of 34 smaller waves are obtained. And the biggest waves—wave 1 and wave 2—are just two waves in a higher-level five-wave ascending structure. If we subdivide the 34 small waves in Figure 2 to the next level, we will get 144 small waves as shown in Figure 3.
Figure 3: Wave 34 subdivides into wave 144
Speaking of this, everyone should understand the meaning of "5-3-5-3-5". First of all, wave 5 refers to a wave composed of five waves 1, 2, 3, 4, and 5 in Figure 1, and wave 3 refers to a wave composed of three waves a, b, and c in Figure 1 (this simple ABC form, we usually call it "Zigzag"). When we say that the propulsion wave is in the form of 5-3-5-3-5, it means that the propulsion wave can be composed of five sub-waves, and these five sub-waves are respectively composed of 5 waves, 3 waves, 5 waves, 3 waves, and 5 waves. composition, as shown in Figure 2.
Waves can be subdivided. In other words, waves can merge. An 8-wave cycle actually merges into waves 1 and 2 of a larger wave. It is under the action of subdivision and merger that "there are waves in the waves, and they are endless", which constitutes the most attractive part of the wave theory.
Elliott's distinction between 8 waves
So, how should these 8 waves be divided? In other words, what are the characteristics of each of them that are easy to distinguish?
Elliott chose some specific terms to describe wave degrees:
Extra Large Hypercycle Level [I] [II] [III] [IV] [V] [A] [B] [C]
Hyperloop Level (I) (II) (III) (IV) (V) (A) (B) (C)
Circulation grade I II III IV VABC
Basic Level I ii iii iv vabc
Medium Grade [1] [2] [3] [4] [5] [a] [b] [c]
Small Class(1) (2) (3) (4) (5) (a) (b) (c)
fine level 1 2 3 4 5 abc
Here, I personally think that there is no need to be too rigid about these dogmas, as long as you mark waves of the same level with the same symbols.
Among the eight waves, the main characteristics are as follows:
Wave 1: It represents the market breaking out in despair. The rise and rise of wave 1 is usually not the largest among the five waves.
Generally speaking, the first wave often has two forms: (1) Almost half of the first wave is the first part of the bottom pattern, and the first wave is the beginning of the cycle. In the rebound or correction after the market decline, the buyer power is not strong, and the short sellers continue to have selling pressure. Therefore, when the second wave adjusts and falls after the first wave rises, the retracement range is often deep. There is even a double bottom situation, refer to the K-line pattern of the Shanghai Composite Index from June to September 2005, as shown in Figure 4; (2) the other half of the first wave appeared after a serious oversold, if there is any trouble in the news It will trigger a sharp rise in the market, and the rise will be relatively large. After the two-wave adjustment, there will often be graphics such as head and shoulders. You can refer to the trend of Lun Aluminum from 1996 to 2002.
Chart 4: The largest round of bull market in the A-share market started with a double bottom at 998 points
The second wave: In the wave theory, this wave of decline is called a dangerous adjustment. Because market participants mistakenly believe that the bear market is not over yet, the adjustment decline is quite large, almost eating up the increase of the first wave.
When the market falls close to the bottom (the starting point of the first wave) in this wave, the market shows a reluctance to sell, the selling pressure gradually exhausts, and the trading volume gradually shrinks, the second wave adjustment will come to an end. In this wave, it often appears in a wave of rapid decline or zigzag, but occasionally there is also a turning pattern in the chart, such as head shoulder bottom and double bottom, as mentioned in the above wave 1. It should be noted that the bottom of wave 2 is not allowed to be lower than the bottom of wave 1. This is an iron law.
Wave 3: The market advances amidst hesitation and matures amid expectations, with blue-chip stocks and growth stocks becoming the main theme.
Chart 5: In 2000, the Shanghai Composite Index rose with a weekly gap breakthrough
Note: The third wave is often the largest and most explosive upward wave. The duration and range of this market is usually the longest. Market investor confidence recovers and the trading volume rises sharply, often appearing in traditional charts. Breakthrough signals, such as gap jumps, etc., the trend of this period of the market is very intense, and some levels on the graph are easily broken through, especially when breaking through the high point of the first wave, it is the strongest buying signal, because The 3rd wave rally is intense, and the phenomenon of "extended waves" often occurs. This can refer to the trend of the Shanghai Composite Index in February 2000, as shown in Figure 5.
4th wave: The 4th wave is an adjustment wave after the market has risen sharply. It usually appears in a more complicated form and often appears in the trend of "diagonal triangle", but the bottom point of the 4th wave will not be lower than the top of the 1st wave.
For this, you can refer to the 1998 thousand-point defense battle of A shares. Compared with the dangerous adjustment of wave 2, wave 4 is generally called a steady adjustment.
Wave 5: In the stock market, wave 5 rallies are usually smaller than wave 3 and often fail.
In the fifth wave, the second and third types of stocks are usually the dominant force in the market, and their growth rate is often greater than that of the first type of stocks (blue chip stocks, large stocks), which is what investors often say "chicken and dog ascend to the sky". Optimism, this is what we often say "the market will perish in madness" signs.
Wave A: In wave A, most market investors believe that the rising market has not yet reversed, and it is only a temporary retracement phenomenon at this time.
Figure 6: The A-wave adjustment that started in 2015 unfolded in a zigzag
In fact, the decline in wave A usually has warning signs in the fifth wave, such as the deviation between trading volume and price trend or technical indicators, etc. However, because the market is still relatively optimistic at this time, wave A sometimes has a flat adjustment Or "zigzag" type operation. The Shanghai Composite Index’s A-wave adjustment since June 2015 is a zigzag pattern, see Figure 6.
The B wave: The performance of the B wave is often that the trading volume is not large, and generally speaking, it is the escape line of the bulls. However, because it is a rising market, it is easy for investors to mistake it for another wave of rising prices, forming a "bull trap", and many people are trapped in this period. You can refer to the Shanghai Composite Index in November-December 2015, which clearly lures more market.
Wave C: It is a downward wave with strong destructive power, the decline is relatively strong, the decline is large, the duration is long, and there is a comprehensive decline. You can refer to the falling market of the Shanghai Composite Index after April 2004, and all the strong Zhuang stocks perished.
summary
The basic concept of wave formation can be summarized as follows:
1) A movement must be followed by an opposite movement; that is, a push wave and a correction wave go hand in hand.
2) The driving wave on the main trend is in the same direction as the main trend, and can usually be divided into five lower-level waves; the correction wave is opposite to the main trend direction, either rising or falling. Usually can be divided into three waves of lower level.
3) The eight wave movements constitute a cycle, which naturally forms two branches of the superior wave.
4) The market shape does not change over time. Waves stretch and compress, but their basic shape remains the same.
2. Volatility Ratio
The so-called amplitude ratio refers to the proportional relationship and analysis between various waves. Clarify the proportional relationship, and by measuring the ratio between waves, you can determine the retracement point of the stock price and the possible future position.
Here, Elliott took the trouble to repeatedly emphasize that the mathematical basis of the wave theory is a series of numbers discovered (more precisely, rediscovered) by Fibonacci in the 13th century. The sequence was later named after its discoverer and is generally known as the Fibonacci sequence.
Therefore, when we analyze the volatility ratio, we must often use Fibonacci numbers, especially the golden ratio that has evolved from it as the core. This will be discussed in detail in the "Three Principles".
3. Duration
The so-called duration refers to the time period of each wave and the relationship between them. Since the waves are also related to each other in time, we can use this relationship to verify whether a certain wave pattern has formed; and the completion time of the wave pattern can also verify the shape and ratio of the wave, because the wave amplitude between the waves Proportions and time ratios mostly follow the golden ratio.
Of course, some Elliott theorists now believe that the time relationship is less reliable when making market forecasts.
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