Looking for the Extended Wave
Looking at a five waves structure, or expecting one, should be made with extreme caution as depending on which wave is the biggest and applying the 161.8% Fibonacci extension is key.
The most common setup for a wave to be extended is for the third one to be more than 161.8% when compared with the first one.
Therefore, what a trader should do is to take a Fibonacci Extension tool and to look for the level. Once the level is reached, look for a fourth wave that should correct the third wave, but this fourth wave should be a simple correction if the 2nd wave was complex, or a complex correction if the 2nd wave was simply.
Using the Principle of Alteration
This is due to the principle of alternation that needs to be respected by the two corrective waves, namely the second and the fourth one and the lack of it leads to a move that is channeling really well. This channeling is the first clue we have market is not trending in an impulsive move but it is in a corrective phase.
The next thing to be done is to measure the length of the first wave and projected to the upside in the case of a bullish impulsive move, from the end of the 4th wave. That is the place we should look for the 5th wave to end and, depending on the time frame the impulsive move appears, we should buy call or put options.
One important thing to keep in mind is the fact that in such an impulsive move, by the time the 5th wave is completed, it is mandatory for price to come back at the end of the previous 3rd wave.
Like mentioned above, these extensions represent the most common setup in an impulsive move and almost all impulsive waves have a third wave extension.
Most of the times this third wave extension follows after a long and time consuming second wave, making everyone wondering when the real break is coming. It is not unusual for the second wave here to be the most time consuming out of all impulsive moves and judging by its structure we have an idea about what’s to follow after the third wave is completed.
What is a Third Wave Extension?
The third wave in any impulsive move should be impulsive on its own and this offers us the most important clue of them all. What a trader should do is to go on the lower time frames and count of a lower degree and see if what is believed to be the third wave extension of a bigger degree is indeed one and if all the rules are respected. If everything is respected and the 0-2 trend line is confirming the setup, then we can say for sure we have a third wave extension.
The fourth wave to follow after a third wave extension is a short one is the second wave was a lengthy and complex one and in this case rarely it retrace more than 38.2% when compared with the length of the whole third wave. If that is the case, on the 38.2% we should trade call options in an impulsive move, respectively put options in a bearish one.
Taking into account that fifth wave failures are really rare, like we already mentioned in the article dedicated to fifth wave failures, it means by default that the fifth wave to follow must take the highs of the previous third wave in a bullish impulsive move or the lows in a bearish impulsive move.
If that is happening, it is time to look for a striking price for a reversing option. In order to find the perfect striking price, the way to go is to measure the whole length of the first wave and take 61.8% out of it as most of the times this is the length of the fifth wave and a put option is to be traded in a bullish move and a call option in a bearish move.
In the case the fifth wave still advances after that level is being reached, it means market is heading towards the 161.8% length out of wave one and that is the place to be even more aggressive in your trading.
Another thing to look for when interpreting five wave structure is to make sure the third wave is never the shortest one as this is virtually impossible and invalidates all scenarios no matter how well the other things are fitting in.
Trading with Eliott
Trading with Elliot Waves theory can be a tricky and relative thing but taking into account only the things that matter and using Fibonacci in relation to the Elliott tips and tricks can result in a rewarding trading system/setup any trader is interested to master.
The two video recordings that are in this article are introducing you to the world of Elliott Waves theory and what are the tips and tricks to look for when trading binary options with Elliott Waves counting.