While the Elliott Wave Theory may be incredibly subjective, it also enables a trader to play with a variety of trading scenarios. This means that they can perform a top down/analysis beginning with the larger time frames progressing down to ones that are actually able to be traded and obtain clear situations where the scenarios are either validated or not and then they can trade in that direction. In the case of a bullish trend, call options can be traded, whereas in the case of a bearish scenario, put options can be executed.
One way to tell if a move is impulsive or not is to use a 2-4 trend line. The trader should effectively draw the trend line from the ending point of the second wave, dragging to the end of the fourth wave and projecting it on beyond.
How to Draw the 2-4 Trend Line
To draw a 2-4 trend line, the trader will need to be aware of where the 2nd and 4th waves will end, and this can only be possible once the 4th wave has been completed. They should always check to see if the alternation principle is being respected i.e. the 2 corrective waves should differ in either complexity (i.e. one be simple and one be complex), price distance or structure (i.e. the composition of both waves should vary). At least one of these must apply for the alternation principle to be respected.
A trader must then bear in mind that a corrective wave will not always end at the low or the high as it can possibly end with a flat with a failure (i.e. the C wave will fail to break the high or low of the prior wave A) or a triangle. In either of these cases, the correction will not end at the low or high of the entire wave and to draw a 2-4 trend line, the trader must be aware of exactly where the waves will end.
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Usually, the 3rd wave will not break the 2-4 trend line, so if you observe this occurring, the move cannot be an impulsive one. Impulsive moves and the 2-4 trend line are as clean as possible. Also, by the time the 2-4 trend line can be drawn, the impulsive move will already have been almost completed, with the 5th wave being either in place or close to ending. By judging the way the market is moving following the break of the 2-4 trend line, a trader can assume the next step and take a reasonable guess if that impulsive move formed part of a larger degree 5 wave structure or was the C wave of a flat. Depending on which of the original 5 wave structure’s waves was the extended one, the trader is aware of what price action to expect following the break of the 2-4 trend line.
First and Third Wave Extensions
In the case of a 1st wave extension, a trader should look for a 50% retracement of the entire wedge by the time there has been a break in the 2-4 trend line. Should the wedge have overlapped between the 2nd and 4th waves, this indicates that the entire wedge will eventually be completely retraced. Although it is common that the price will retest this 2-4 trend line following the break, this is not always the case.
If a 3rd wave extension is forming, the 2-4 trend line will offer a trader the chance of finding dynamic resistance or support and allow them to trade either put or call options depending on whether it is a bearish or bullish move. This can be done by copying the 2-4 trend line and by pasting it over the 3rd wave’s end. The channel that results should see the future price action in the case of an impulsive bullish move finding resistance, and therefore put options should be traded, or in the case of a bearish impulsive move it will find support and therefore call options can be traded.
By understanding how the 2-4 trend line can be interpreted and traded in every possible extension situation, a trader can achieve great success when executing binary options trades.
Other educational articles:
- How to Use a Risk Reversal Strategy to Avoid a Large Part of Your Risk While Trading Binary Options
- What is the Pinocchio Binary Options Trading Strategy?
- How to Use Hedging Strategy to Manage Risk Effectively in Binary Options Trading
- Using Fundamental Analysis in Binary Options Trading
- Is It Possible to Successfully Trade a Flat Market in Binary Options Trading?
- Dealing with Expanding Triangles in Binary Options Trading
- Trading Double Combinations, One of the Most Complex Corrective Waves
- Trading The Apex Of A Triangle For Profitable Binary Options Trading
- 10 Lessons for Elliott Waves
- To Study the Trend and Behaviour Analysis of Indian Equity Market Using Elliott Wave Principle and Fibonacci sequence, Dr. Pooja Talreja, IJIRSET, Vol. 3, Issue 6, June 2014
- The ultimate Technical Analysis Handbook, ElliotWave International eCourse Book