Dec
10
2009

  I Want To Believe Elliott Waves

I've started to look into Elliott Wave Theory. It can be applied to many situations involving human behavior, but I think is most often used for trading and economics.

The basic premise is that events unfold in waves. The basic unit is five waves, but contrary moves are three waves. Every wave is composed of smaller waves, likewise every wave is part of larger waves. They create nesting patterns, like fractals.

This is a big simplification, and I'm just now trying to get my head around it so there might be a better one-paragraph explanation out there.

The theory is appealing to me, but I'm not yet an adherent. One of the criticisms of this theory is that it's not as clean-cut in practice as it is in theory, and when you apply it in real-life, you don't get five clear waves. Some of the waves practitioners come up with can seem to observers that they're trying a bit too hard to find a wave where there is none.

I don't mind if it's a case of "it's more art than science" but I do wonder if there is enough "science" for it to be useful for trading. I think the main guy in Elliott Wave theory right now, Robert Prechter, got the count wrong in a big way back around 2002-2003. I don't remember where I read about that so I could be misremembering, but I'm reading his current book to find out what his position is now.

Timing is important. In trading there is a difference in being early and being wrong. If you're early, you'll still benefit from your actions although your profits won't be as great as if you were right on time. But if you're wrong, you may feel like you're winning for a while but you'll wind up losing a bundle. I think Prechter's defense was that being a decade off in a 150-year cycle (or whatever it is) isn't a big deal. But 150-year cycles don't necessarily help one make actionable trades, so again, I'm not sure if this will be for me or not. I'll know more when I finish the book.