Elliot wave is one of the most important tools in technical analysis of stocks and finance markets. It was first presented by an economist named R. N Elliot and most financial analysts agree that the Elliot wave impacted market analysis in a significant manner. If you are familiar with the stock and financial markets, then you are aware that it is dynamic and very confusing. In fact, early financial investors described the market as chaotic and random. These behaviors of the market compelled smart financial traders to develop charts which helped them in the interpretation of the markets. Mr Elliot made the most notable contribution and up to this date, the Elliott wave is widely used by most professional traders. The fact that Elliott wave is used in volatile markets like the foreign exchange markets clearly shows that there are benefits attached to the application of Elliott wave. Here are 4 main benefits of using the Elliott wave:
1) Gives you a general direction of the market
It is common to hear financial traders say that “markets are random” because of their irregular behavior. This assumption is usually echoed by random walk theorist. As much as this statement could be right to some degree, the Elliott wave principle sheds some light into market behavior. According to the observation of Mr Elliott, the market moves in patterns that are usually repetitive. He argued that this is a result of optimism and pessimism psychology of investors. He divided the move into two types: impulse and retracement. The impulse waves are actually the general direction of the markets while the retracements are markets correction which are later overrode by the impulse. This observation is the basis of Elliott principle and simplifies the understanding of the markets. Investors can easily identify the direction of the markets by identifying the impulse waves.
2) Helps in providing a precise entry and exit points
The most critical point of analysis is to precisely identify the entry point and the target point especially in high leverage markets. This is because missing the entry or exit points by few ticks could lead to huge losses. Elliot wave solves the problem by giving the characteristics of impulse and retracement. According to Mr. Elliott, an impulse wave contains 3 minor impulse waves and 2 corrections. Therefore, a wise investor knows that when the final wave is completed then that is the perfect time to exit and it is best to enter a trade after a correction pattern is completed.
3) Simplify market analysis
Analyzing the market is not an easy thing especially if you are using fundamental analysis only. This is because the amount of information required for analysis in order to get the right idea of the direction of the market is usually enormous. However, Elliott principle simplifies that by analyzing the social principles which govern the financial markets. Investors don’t need to look at every economic bulletin or news in order to predict how investors will react, they just need to analyze the chart correctly and they can tell how the markets will react.
4) Explains relationship between mathematics and human psychology in finance markets
Elliot wave incorporates mathematics and human psychology in explaining the behaviors of the markets. For instance, retracement waves cover up certain percentage of the impulse waves. Mr Elliott uses Fibonacci ratios to explain the relationship between impulse and retracement waves. Therefore, using Elliott waves offer investors a comprehensive explanation of how Fibonacci ratios are reflected in the financial markets. He argued that Fibonacci ratios are reflected in all forms of existence and the financial markets are not exceptional. This understanding makes financial forecasting easier than it was prior to this observation.
Elliott wave is actually beneficial to all type of investors because the financial markets are usually repetitive. Elliott describes them as fractal and this means that the patterns are repeated in all time frames. However, the financial markets are usually complex and in order to be succeed, investors are required to use other tools and not only rely on Elliott wave. In addition to that, investors are advised to fully understand the wave principle and correctly learn to apply it in real time. This will make them enjoy the full benefits of using the Elliott wave.