Elliott Waves – Trading the 2-4 Trend Line Break
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Theory of Elliott Waves is among the most subjective trading theories that were ever presented. On the other hand, this theory is also among the most exact ones in the way that it provides the trader with the possibility to play with various scenarios.
This means the trader through a top down/analysis, with the bigger time frames in the beginning and then the ones that we can trade meets the clear situations in which those scenarios are either being confirmed or not.
After all these steps there is only the one real scenario that survives which could mean for us that we should trade into that direction. Therefore, in case this scenario is bullish, we should trade call options. Otherwise, if the scenario is bearish, we should trade put options.
One of the possible ways to distinguish whether a certain move is an impulsive one or not is to apply the 2-4 trend line within the impulsive move.
Using the 2-4 trend line means that we should successfully draw a trend line which starts at the end of the 2nd wave and goes all the way to the end of the 4th wave and projecting it further.
How to Draw the 2-4 Trend Line?
Drawing the 2-4 trend line may bring implications that the trader is familiar with these points where the second and fourth waves are going to end. However, they are only available and familiar once the 4th wave is completed. Besides, it is advised that the alliteration principle is followed and respected. Alliteration between the two corrective waves is a significant issue, and according to some sources, they should be different in at least one of the following characteristics. The first one is the complexity where one should present a simple correction while the other should be a complex one. Then, there is the distance traveled by a price which would be observed in the first case where the first wave ends and where the second one ends, while in the second case it would be observed from the end of the third wave until the end of the fourth one. Finally, there is also the structure which suggests that a composition of the two corrective waves should be different.
After all, we must be aware that the corrective waves are not always about to end at the highs or the lows as they most often do. For instance, they end with a triangle or with a flat which includes a drop – this means that wave c is failing to break the lows/highs of the previous wave a. In neither case, the correction will end at the high/low of the whole wave. Nevertheless, as we already mentioned for drawing the 2-4 trend line, we need to know precisely where the waves are going to end.
Implications on the Third Wave
As a principle, it is unacceptable that the third wave breaks the 2-4 trend line. However, if it happens then the move which you observe and analyze is not an impulsive move since they should be clean as well as the 2-4 trend line.
Furthermore, the impulsive move should be almost completed with the 5th wave in place until the moment when we can draw the 2-4 trend line. Concerning the fact how the market moves once the 2-4 trend line is broken, we can presume our next step and also observe if the impulsive move was part of five wave structure of a bigger degree or it was wave c of a flat pattern.
We are eager to know the expectations for price action once this 2-4 trend line is broken depending on which one of these original five wave structure is the extended wave.
When we observe a first wave extension in the case when the market is in the shape of a wedge, we should search 50% retracement of the whole wedge until the 2-4 trend line is broken. Nevertheless, in case the wedge has overlapped between the two waves – the second and the fourth, the whole wedge will eventually be entirely retraced.
It is necessary to mention that in the situation described above, it is normal for a price to retest the 2-4 trend line once it was broken. However, that activity is not obligatory.
Finding Dynamic Support and Resistance
In case the market is creating a third wave extension, then we should know that the 2-4 trend line offers the opportunity to get dynamic support or resistance and, concerning the fact that this move is bullish or bearish, we can trade call or put options.
The best possible way is to copy the 2-4 trend line and then paste it over the third wave´s end. As a result, we should observe the price action to come looking for resistance in a bullish impulsive move. Therefore, the put options can be traded. However, if the price action seeks support in a bearish impulsive move, then the call options can be traded.
In order to further explore about the impulsive move and also about the interpretation of the 2-4 trend line in all potential extended situations, be sure to watch the video analyses which are made to easily and effortlessly understand how this five wave structure affects the price action in general after the 2-4 trend line is broken.
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