Elliot waves are a form of technical analysis which aims to forecast market trends by using price highs and lows in prices, as well as market cycles. The price action on the charts is delineated as waves and was first put forward by Ralph Nelson Elliott.
Elliot waves can be divided into two parts:
a) Motive waves
b) Corrective waves
Take a look at the snapshot below to make out the part of the Elliot wave that constitutes the motive waves, and the second part which constitutes the corrective wave. In this piece, we tackle the motive waves and their relevance to forex trades.
Motive waves constitute the first 5 waves in the conventional 8-wave pattern that was initially described by Elliot. The motive wave is the wave component which moves in the direction of the trend. Within the motive wave, there are two short retracements, corresponding to wave 2 and wave 4. Motive waves can occur in bullish and bearish markets, and this is demonstrated below:
The big question that must be asked here is this: what is the relevance of the motive wave to a trader’s trading plan? After all, the motive wave is not just there for the sake of being there. It must surely be put to some kind of use by the trader.
The motive wave may present opportunities to trade with the prevailing trend until the trend ends. This means that there are opportunities to buy at the commencement of waves 3 and 5 in an uptrend, and opportunities to sell at the start of waves 3 and 5 in a downtrend. It is not as easy as it looks. It is important to have an idea as to where a wave will start and end, because these things do not just pop straight out of the charts.
To help traders know where to enter and exit on the trades, certain rules govern the motive ways:
a) Wave 2 does not usually extend beyond the point at which wave 1 commences.
b) Wave 4 obeys the same rule as wave 2: it does not extend beyond the point at which wave 1 ends.
c) Wave 3 is usually the longest of the waves.
Trading with the Motive Waves
The only way to trade the motive wave is to buy on the dips and sell on the rallies. In other words, sell at the start of waves 3 and 5 in a downtrend, or buy at the start of waves 3 and 5 in an uptrend. Fibonacci ratios may help to identify these points, using the retracement tool to plot from the start of wave 1 to the end of wave 1. The Fibonacci expansion tool may also be used in this manner to derive the possible points at which wave 3 will come to an end (the profit target).
Our motive wave is as shown above. A Fibonacci retracement trace from the start of wave 1 to the end of wave 1 brings up the 38.2% retracement line as the point where the retracement wave 2 ends. The long entry can be made here and followed to the end of wave 3, which can be deduced by using the Fibonacci expansion tool.
This trade must be practiced thoroughly on a demo platform before it can be used on an account with real money. The example is meant to illustrate the use of motive waves in an Elliot wave structure.