ABC Wave Theory, being one of the important aspects of Elliott Wave Theory, explains a three-wave countertrend price action. It consists of three distinct waves:
- Wave A: The first wave moves contrary to the prevailing market trend.
- Wave B: A corrective wave that partially retraces Wave A.
- Wave C: The final wave, extending beyond Wave A, completing the countertrend move.
Understanding Wave Degrees
Alphabetical designation (A, B, C) is employed to differentiate between different degrees or levels of a wave pattern. These degrees start with major market trends and sub-divide into smaller sub-waves, forming a fractal structure. The theory operates on different timeframes, which means an ABC correction can be identified within a larger impulse wave pattern.
Impulse vs. Corrective Waves
Elliott Wave Theory separates market waves into two types:
- Impulse Waves: These waves move in the direction of the major trend. These waves consist of five small sub-waves (1-2-3-4-5) and represent a very strong price movement.
- Corrective Waves: These are opposite the main trend and have an ABC structure. These corrective waves indicate price retracement before the continuation of the trend.
Use in Trading
Traders use the ABC Wave Theory for the detection of potential reversals, confirmation of trend corrections, and timing of entries or exits. Traders use the identification of corrective patterns to avoid false identification of trend reversals as pullbacks. Wave C, in particular, is crucial as it determines the termination of the correction, predicting whether the trend will continue or reverse.
Conclusion
With ABC Wave Theory, traders can forecast market action, improve their strategy, and improve technical analysis decision-making.
