Elliott Wave Theory

Elliott Waves are a system of repeating patterns discovered by Ralph Nelson Elliott. Elliott discovered 13 patterns in total, but the 5-3 pattern consisting of 8 waves is considered the basic one.

According to Elliott's wave theory, waves are divided into "Motive” and "Corrective”. Motive waves are price movements that coincide with the direction of the main trend, Corrective waves are movements against the main trend. In the screenshot shown above, the motive waves are (1), (3), (5), (a), and (c), and corrective waves are (2), (4), and (b). Also, according to Elliott, any motive wave of the basic model can be represented as five smaller waves, and any corrective wave as a three. Thus, the basic model 5-3 can be represented as 2 waves of a higher wave level and as 34 waves of a lower one.

The Chart Pattern Elliott Wave indicator is configured to recognize the most common wave patterns, which are built according to the following rules:

Impulse (Motive wave):

1. Wave structure: 5-3-5-3-5
2. Wave 2 does not retrace more than 100% of the length of wave 1
3. Wave 3 moves beyond the end of wave 1
4. Wave 3 cannot be the shortest among waves 1, 3, and 5
5. Wave 4 does not go beyond the level of wave 1

ZigZag (Corrective wave):

1. Wave structure: 5-3-5
2. Wave b is shorter than a
3. Wave c goes beyond the level of wave a

The indicator analyzes the last 600 bars in search of patterns, conditionally dividing them into two levels by nesting (main and sub-waves). The start and end points of the waves in the patterns found are tied to the most suitable pivot points. If there is no suitable pivot for the start or end point of the entire pattern, the indicator uses the highest maximum and lowest minimum values, respectively. Then the indicator checks the rules for impulse and zigzag and draws patterns that capture the most amplitude price movements.

The following marking is used to indicate the level that the wave belongs to:

Main Waves: (1), (2), (3), (4), (5), (a), (b), (c)

Sub-waves: 1, 2, 3, 4, 5, a, b, c

This marking does not correspond to the historical levels of the Elliott wave theory; it is conditional. It displays the nesting level of the pattern.

When the pattern is in the In Progress mode, the indicator builds as many waves as possible based on the pivots, and uses a local extremum (highest high or lowest low) to build the last wave. If that last wave does not complete the pattern, the indicator draws possible projections of the next wave using Fibonacci proportions. Depending on the length of wave 3, wave 5 will be projected either from wave 1 or from the height of the movement of the first three waves. The projections of wave C are constructed from the length of wave A. All other projections are calculated based on the wave preceding them. The minimum number of waves in the in-progress pattern is 3.

Inputs:

Invert Pattern - This flag allows you to change the direction of the pattern, to search for impulse in a downtrend, and a zigzag in an uptrend.

In Progress - Enables the search for incomplete patterns that are in the process of being formed.

Length type - How the wavelength is calculated when checking the rules of pattern construction:

Absolute - the wavelength is calculated as the price difference between the start and end point of the wave.

Percent - the wavelength is calculated as the percentage change in price between the start and end points of the wave.

Important note:

When new data is received, the indicator updates and clarifies previously found patterns. Changing any settings of the indicator leads to its complete recalculation. The result may differ from the expected one.

Fibonacci Retracement

 What Are Fibonacci Retracement Levels?

In finance, Fibonacci retracement is a method of technical analysis for determining support and resistance levels. It is named after the Fibonacci sequence of numbers, whose ratios provide price levels to which markets tend to retrace a portion of a move, before a trend continues in the original direction
Fibonacci retracement levels—stemming from the Fibonacci sequence—are horizontal lines that indicate where support and resistance are likely to occur.

Each level is associated with a percentage. The percentage is how much of a prior move the price has retraced. The Fibonacci retracement levels are 23.6%, 38.2%, 61.8%, and 78.6%. While not officially a Fibonacci ratio, 50% is also used.

The indicator is useful because it can be drawn between any two significant price points, such as a high and a low. The indicator will then create the levels between those two points.

Suppose the price of a stock rises $10 and then drops $2.36. In that case, it has retraced 23.6%, which is a Fibonacci number. Fibonacci numbers are found throughout nature. Therefore, many traders believe that these numbers also have relevance in financial markets.

Fibonacci retracement levels were named after Italian mathematician Leonardo Pisano Bigollo, who was famously known as Leonardo Fibonacci.  However, Fibonacci did not create the Fibonacci sequence. Instead, Fibonacci introduced these numbers to western Europe after learning about them from Indian merchants.
Fibonacci retracement levels were formulated in ancient India between 450 and 200 BCE.

KEY TAKEAWAYS

• Fibonacci retracement levels connect any two points that the trader views as relevant, typically a high point and a low point.
• The percentage levels provided are areas where the price could stall or reverse.
• The most commonly used ratios include 23.6%, 38.2%, 50%, 61.8%, and 78.6%.
• These levels should not be relied on exclusively, so it is dangerous to assume that the price will reverse after hitting a specific Fibonacci level.
• Fibonacci numbers and sequencing were first used by Indian mathematicians centuries before Leonardo Fibonacci.
  
  
  

  The Formula for Fibonacci Retracement Levels

  Fibonacci retracement levels do not have formulas. When these indicators are applied to a chart, the user chooses two points. Once those two points are chosen, the lines are drawn at percentages of that move.

  Suppose the price rises from $10 to $15, and these two price levels are the points used to draw the retracement indicator. Then, the 23.6% level will be at $13.82 ($15 - ($5 × 0.236) = $13.82). The 50% level will be at $12.50 ($15 - ($5 × 0.5) = $12.50).
  
  

  How to Calculate Fibonacci Retracement Levels

  As discussed above, there is nothing to calculate when it comes to Fibonacci retracement levels. They are simply percentages of whatever price range is chosen.

  However, the origin of the Fibonacci numbers is fascinating. They are based on something called the Golden Ratio. Start a sequence of numbers with zero and one. Then, keep adding the prior two numbers to get a number string like this:

  • 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, 233, 377, 610, 987...with the string continuing indefinitely.

  The Fibonacci retracement levels are all derived from this number string. After the sequence gets going, dividing one number by the next number yields 0.618, or 61.8%. Divide a number by the second number to its right, and the result is 0.382 or 38.2%. All the ratios, except for 50% (since it is not an official Fibonacci number), are based on some mathematical calculation involving this number string.
  
  
  

• The Golden Ratio, known as the divine proportion, can be found in various spaces, from geometry to human DNA.

  Interestingly, the Golden Ratio of 0.618 or 1.618 is found in sunflowers, galaxy formations, shells, historical artifacts, and architecture.

  What Do Fibonacci Retracement Levels Tell You?

  Fibonacci retracements can be used to place entry orders, determine stop-loss levels, or set price targets. For example, a trader may see a stock moving higher. After a move up, it retraces to the 61.8% level. Then, it starts to go up again. Since the bounce occurred at a Fibonacci level during an uptrend, the trader decides to buy. The trader might set a stop loss at the 61.8% level, as a return below that level could indicate that the rally has failed.

  Fibonacci levels also arise in other ways within technical analysis. For example, they are prevalent in Gartley patterns and Elliott Wave theory. After a significant price movement up or down, these forms of technical analysis find that reversals tend to occur close to certain Fibonacci levels.
  
  

  Fibonacci retracement levels are static, unlike moving averages. The static nature of the price levels allows for quick and easy identification. That helps traders and investors to anticipate and react prudently when the price levels are tested. These levels are inflection points where some type of price action is expected, either a reversal or a break.

  Fibonacci Retracements vs. Fibonacci Extensions

  While Fibonacci retracements apply percentages to a pullback, Fibonacci extensions apply percentages to a move in the trending direction. For example, a stock goes from $5 to $10, then back to $7.50. The move from $10 to $7.50 is a retracement. If the price starts rallying again and goes to $16, that is an extension.

  Limitations of Using Fibonacci Retracement Levels

  While the retracement levels indicate where the price might find support or resistance, there are no assurances that the price will actually stop there. This is why other confirmation signals are often used, such as the price starting to bounce off the level.

  The other argument against Fibonacci retracement levels is that there are so many of them that the price is likely to reverse near one of them quite often. The problem is that traders struggle to know which one will be useful at any particular time. When it doesn’t work out, it can always be claimed that the trader should have been looking at another Fibonacci retracement level instead.
  
  

  
  

  Why are Fibonacci retracements important?

  In technical analysis, Fibonacci retracement levels indicate key areas where a stock may reverse or stall. Common ratios include 23.6%, 38.2%, and 50%, among others. Usually, these will occur between a high point and a low point for a security, designed to predict the future direction of its price movement.

  What are the Fibonacci ratios?

  The Fibonacci ratios are derived from the Fibonacci sequence: 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, 233, and so on. Here, each number is equal to the sum of the two preceding numbers. Fibonacci ratios are informed by mathematical relationships found in this formula. As a result, they produce the following ratios: 23.6%, 38.2%, 50%, 61.8%, 78.6%, 100%, 161.8%, 261.8%, and 423.6%. Although 50% is not a pure Fibonacci ratio, it is still used as a support and resistance indicator.

  How do you apply Fibonacci retracement levels in a chart?

  As one of the most common technical trading strategies, a trader could use a Fibonacci retracement level to indicate where they would enter a trade. For instance, a trader notices that after significant momentum, a stock has declined 38.2%. As the stock begins to face an upward trend, they decide to enter the trade. Because the stock reached a Fibonacci level, it is deemed a good time to buy, with the trader speculating that the stock will then retrace, or recover, its recent losses.

  How do you draw a Fibonacci retracement?

  Fibonacci retracements are trend lines drawn between two significant points, usually between absolute lows and absolute highs, plotted on a chart. Intersecting horizontal lines are placed at the Fibonacci levels.

  The Bottom Line

  Fibonacci retracements are useful tools that help traders identify support and resistance levels. With the information gathered, traders can place orders, identify stop-loss levels, and set price targets. Although Fibonacci retracements are useful, traders often use other indicators to make more accurate assessments of trends and make better trading decisions.

Magic of chart patterns - Bullish Engulfing

 Bullish Engulfing

What Is a Bullish Engulfing Pattern?

A bullish engulfing pattern is a white candlestick that closes higher than the previous day's opening after opening lower than the previous day's close. It can be identified when a small black candlestick, showing a bearish trend, is followed the next day by a large white candlestick, showing a bullish trend, the body of which completely overlaps or engulfs the body of the previous day’s candlestick.

A bullish engulfing pattern may be contrasted with a bearish engulfing pattern

KEY TAKEAWAYS

• A bullish engulfing pattern is a candlestick pattern that forms when a small black candlestick is followed the next day by a large white candlestick, the body of which completely overlaps or engulfs the body of the previous day’s candlestick.
• Bullish engulfing patterns are more likely to signal reversals when they are preceded by four or more black candlesticks.
• Investors should look not only to the two candlesticks which form the bullish engulfing pattern but also to the preceding candlesticks.
  
  

Understanding a Bullish Engulfing Pattern

• The bullish engulfing pattern is a two-candle reversal pattern. The second candle completely ‘engulfs’ the real body of the first one, without regard to the length of the tail shadows.

  This pattern appears in a downtrend and is a combination of one dark candle followed by a larger hollow candle. On the second day of the pattern, the price opens lower than the previous low, yet buying pressure pushes the price up to a higher level than the previous high, culminating in an obvious win for the buyers.
  
  

  
  
  

What Does a Bullish Engulfing Pattern Tell You?

• A bullish engulfing pattern is not to be interpreted as simply a white candlestick, representing upward price movement, following a black candlestick, representing downward price movement. For a bullish engulfing pattern to form, the stock must open at a lower price on Day 2 than it closed at on Day 1. If the price did not gap down, the body of the white candlestick would not have a chance to engulf the body of the previous day’s black candlestick.

  Because the stock both opens lower than it closed on Day 1 and closes higher than it opened on Day 1, the white candlestick in a bullish engulfing pattern represents a day in which bears controlled the price of the stock in the morning only to have bulls decisively take over by the end of the day.

  The white candlestick of a bullish engulfing pattern typically has a small upper wick, if any. That means the stock closed at or near its highest price, suggesting that the day ended while the price was still surging upward.

  This lack of an upper wick makes it more likely that the next day will produce another white candlestick that will close higher than the bullish engulfing pattern closed, though it’s also possible that the next day will produce a black candlestick after gapping up at the opening. Because bullish engulfing patterns tend to signify trend reversals, analysts pay particular attention to them
  
  

Bullish Engulfing Pattern vs. Bearish Engulfing Pattern

• These two patterns are opposites of one another. A bearish engulfing pattern occurs after a price moves higher and indicates lower prices to come. Here, the first candle, in the two-candle pattern, is an up candle. The second candle is a larger down candle, with a real body that fully engulfs the smaller up candle.
  
  
  
  

Bullish Engulfing Candle Reversals

• Investors should look not only to the two candlesticks which form the bullish engulfing pattern but also to the preceding candlesticks. This larger context will give a clearer picture of whether the bullish engulfing pattern marks a true trend reversal.

  Bullish engulfing patterns are more likely to signal reversals when they are preceded by four or more black candlesticks. The more preceding black candlesticks the bullish engulfing candle engulfs, the greater the chance a trend reversal is forming, confirmed by a second white candlestick closing higher than the bullish engulfing candle.
  
  
  

  
  
  

Acting on a Bullish Engulfing Pattern

• Ultimately, traders want to know whether a bullish engulfing pattern represents a change of sentiment, which means it may be a good time to buy. If volume increases along with price, aggressive traders may choose to buy near the end of the day of the bullish engulfing candle, anticipating continuing upward movement the following day. More conservative traders may wait until the following day, trading potential gains for greater certainty that a trend reversal has begun.

Limitations of Using Engulfing Patterns

• A bullish engulfing pattern can be a powerful signal, especially when combined with the current trend; however, they are not bullet-proof. Engulfing patterns are most useful following a clean downward price move as the pattern clearly shows the shift in momentum to the upside. If the price action is choppy, even if the price is rising overall, the significance of the engulfing pattern is diminished since it is a fairly common signal.

  The engulfing or second candle may also be huge. This can leave a trader with a very large stop loss if they opt to trade the pattern. The potential reward from the trade may not justify the risk.

  Establishing the potential reward can also be difficult with engulfing patterns, as candlesticks don't provide a price target. Instead, traders will need to use other methods, such as indicators or trend analysis, for selecting a price target or determining when to get out of a profitable trade

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Head and Shoulders Pattern

 Magic of chart patterns

What Is the Head and Shoulders Pattern?

A head and shoulders pattern is used in technical analysis. It is a specific chart formation that predicts a bullish-to-bearish trend reversal. The pattern appears as a baseline with three peaks, where the outside two are close in height, and the middle is highest.

The head and shoulders pattern forms when a stock's price rises to a peak and then declines back to the base of the prior up-move. Then, the price rises above the previous peak to form the "head" and then declines back to the original base. Finally, the stock price peaks again at about the level of the first peak of the formation before falling back down.

The head and shoulders pattern is considered one of the most reliable trend reversal patterns. It is one of several top patterns that signal, with varying degrees of accuracy, that an upward trend is nearing its end.

KEY TAKEAWAYS :-

• A head and shoulders pattern is a technical indicator with a chart pattern of three peaks, where the outer two are close in height, and the middle is the highest.
• A head and shoulders pattern—considered one of the most reliable trend reversal patterns—is a chart formation that predicts a bullish-to-bearish trend reversal.
• An inverse head and shoulders pattern predicts a bearish-to-bullish trend.
• The neckline rests at the support or resistance lines, depending on the pattern direction.
  
  
  

  Understanding the Head and Shoulders Pattern

  A head and shoulders pattern has four components:

  1. After long bullish trends, the price rises to a peak and subsequently declines to form a trough.
  2. The price rises again to form a second high substantially above the initial peak and declines again.
  3. The price rises a third time, but only to the first peak level, before declining again.
  4. The neckline, drawn at the two troughs or peaks (inverse).

  The first and third peaks are the shoulders, and the second peak forms the head. The line connecting the first and second troughs is called the neckline.
  
  
  
  

  

  Inverse Head and Shoulders :-

  The opposite of a head and shoulders chart is the inverse head and shoulders, also called a head and shoulders bottom. It is inverted with the head and shoulders bottoms used to predict reversals in downtrends. This pattern is identified when the price action of a security meets the following characteristics:

  • The price falls to a trough, then rises
  • The price falls below the former trough, then rises again
  • The price falls again but not as far as the second trough
  • Once the final trough is made, the price heads upward toward the resistance (the neckline) found near the top of the previous troughs.

  
  
  

  Advantages and Disadvantages of the Head and Shoulders Pattern

  Advantages

  • Experienced traders identify it easily

  • Defined profit and risk

  • Big market movements can be profited from

  • Can be used in all markets

  Disadvantages

  • Novice traders may miss it

  • Large stop loss distances possible

  • Unfavorable risk-to-reward possible

  The Bottom Line

  The head and shoulders is a pattern used by traders to identify price reversals. A bearish head and shouders has three peaks, with the middle one reaching higher than the other two. It indicates a reversal of an upward trend.

  A bullish head and shoulders has three troughs, with the middle one reaching lower than the other two. It indicates a reversal of a downward trend.