What Are Elliott Waves?

The Elliott Wave Theory, an essential tool for many stock and crypto market traders, was developed by Ralph Nelson Elliott in the 1930s after observing recurring fractal wave patterns. It is a technical analysis theory used to describe price movements in the financial market by looking at persistent changes in investor sentiment and psychology. Stock markets, which were generally thought to behave in a random manner, were found to trade in repetitive patterns called waves. Investors trying to identify market trends are said to be ‘riding a wave’. 

Elliott, who turned his attention to the stock market after retiring at the age of 58 due to poor health, found that the same patterns were related to mass swings in investor psychology and almost always mirrored the recurring fractal patterns in financial markets. The Elliott Wave Theory resembles the Dow Theory in that both recognize that stock prices move in waves. However, because Elliott was able to recognize the pattern’s fractal element, he was able to break them down and study them in more detail. Fractals are a mathematical structure that infinitely repeats themselves. By seeing this, it was also possible to use the patterns as predictive indicators of future market movement.

According to the theory, there are various types of waves. An impulse wave, which travels in the same direction as the overall trend, always shows five waves in its pattern. On the other hand, a corrective wave flows in the opposite direction. The next pattern repeats itself infinitely on ever-smaller scales, hence its fractal nature.