Elliott Wave Theory was developed by an American accountant named Ralph Nelson Elliott in the late 1920’s.
Elliott believed that the stock market moved in repetitive waves that you could predict from observation.
Before this period is was assumed that the stock markets moved in a more chaotic manner.
Who Was Ralph Nelson Elliott?
Ralph Nelson Elliott was an American accountant and author born 28 July 1871 – 15 January 1948.
It was in the early 1930’s that Elliott began his systematic analyzing of seventy-five years of stock market data.
Elliott collected the results of his studies and published his third book entitled The Wave Principle.
In the early 1940s, Elliott wrote his final major work: Nature’s Law –The Secret of the Universe.
This expanded his theory to apply to all collective human behaviors.
Since Elliott’s death, other practitioners have gone onto to use or expand on Elliott Wave Theory.
In 1978 Richard Russell and A.J. Frost published Elliott Wave Principle.
Principle of 1930’s Elliott Wave Theory
Elliott believed that upward and downward swings (he called waves) had the same repetitive patterns.
The basic principal of his theory was that if you can identify the repeating patterns then you can predict where the price will go.
Elliott wave theory assumes a trending market moves in a 5-3 wave pattern.
The five wave pattern (called an impulse wave) is the movement in the direction of the trend.
An impulse wave consist of 5 waves, labelled as 1, 2, 3, 4, and 5 as you can see below.
Waves 1, 3 and 5 are motive movements which means they are moving with the overall trend. Waves 2 and 4 are corrective movements and are moving against the trend.
The five wave pattern can move either in an upward or downward movement.
A corrective wave is a correction against the trend.
When combined the impulse and corrective wave make a 5-3 wave pattern.
There are 3 parts to the wave and these are labeled a,b and c as seen below.
A corrective waves start with a corrective movement (a), a motive movement (b), and then another corrective movement (c).
For a bearish market the pattern would be the reverse.
Elliott has stated that there are 21 corrective abc patterns in various complexities.