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Earlier in this web site we looked at the practical application of Elliott wave theory, how it is taught by many of the standard books, courses and software programs, and came to the conclusion that in practice the theory did not work for long enough periods for it to be a reliable technical analysis method. Having reached this conclusion, where can you go from here ?
Rather than simply giving up and throwing the theory away I spent years looking at what (if any) parts of the theory produced reliable and, more importantly, consistent results, and the solution was remarkably simple.
We already know that the largest (and most profitable) swings are Waves (1), (3) and (5), which is no surprise because these are the three swings that are in the direction of the main trend. From common sense we know that as a trader we need a strategy that enters trades with a small controlled. At first sight this may not make sense, because if the profits are large, then by definition (on average) the losses must be small. But, as you will see later, the only way to control this equation is to focus on the losses, or initial risk. More on this later, for now I just want you to focus on this ideal Elliott wave pattern and seeing how our primary objective fits into an ideal 5-wave pattern.
Okay, if you are to keep the initial risk on any new trade as small as possible it makes sense that you need to enter the trade as early in the new trend as possible. This also has the benefit of increasing the potential profit, but for now the main advantage is that it reduces to a minimum the initial risk required to enter the new trade.
Leaving the end of the prior Wave (5) aside for now, I would like to concentrate on the two corrective waves in this sequence, which are Waves (2) and (4), and in particular the Wave (2) because this leads into the strongest and longest of all the Elliott waves, the Wave (3). Therefore, being able to reliably identify the end of the Wave (2) to then be able to trade the entire Wave (3) would be the most profitable Elliott trade possible. So this is where I focused my main attention. This idea is not new, W.D. Gann stated that the safest place to enter a new trade is at the end of the first correction in a new trend. In Elliott wave terminology, this is the end of the Wave (2). It therefore appears that I was starting to look in the right place.
As already outlined, the corrective Waves of an Elliott wave sequence can come in many forms, many of which are classified as complex. As their title suggests their complexity makes them hard to deal with. From a practical trading perspective, ideally, I was looking for a pattern that had a high reliability and could be identified easily, so looking at complex corrections appeared to being heading in the wrong direction. I then started to focus on the easiest and simplest correction in the Elliott theory.
However, the basic (and simplest) corrective Elliott pattern is the simple ABC correction. This is also the easiest to recognize and to work with. So I started to look at where these types of corrections unfolded. And to my amazement, the most common pattern for the lesser-degree pattern within a Wave (2) correction was the simple ABC !
I cannot stress how important this is, because not only is the simple ABC correction the easiest recognise, but the end of the Wave C is the most reliable to identify as well. Combine this with the pattern occurring in the best place possible and the pieces were staring to fall into place, in that all a trader really needed to focus on was the identification of a simple ABC correction that unfolded as part of a Wave (2) correction. Then you (the trader) are in the perfect position to take advantage of the longest and strongest wave, which is the Wave (3).
So not only have you identified the easiest pattern to recognize (simple abc) , but also the best place to enter a new trade for the smallest initial risk (Wave 2) and then be in a position to take advantage of the wave with the largest profit potential (Wave 3). So all in all, the best possible setup in the entire Elliott Wave sequence.
But here comes the best part – although this ABC pattern is part of the Elliott wave theory, its identification can be made in isolation, and you do not need to be an Elliott wave expert. Hence my unique Isolation Approach was borne, where the main focus was to simply look for the end of a simple ABC correction. This then allowed the trader to enter a trade with a small initial risk but with the potential for the largest profit .