Elliot Wave Principle Book Review

Elliot Wave Principle Book Review

I recently completed reading an interesting technical analysis book entitled "Elliot Wave Principle" by a man named Robert Prechter, president of Elliot Wave International, and found it to be worth reviewing. Though I got the hardback for myself you can actually get a complimentary copy in ebook form. I just can't read ebooks of any substantial length myself.

This book is a must for anyone who believes that there is method to the stock Market Madness.

The wikipedia entry for "Elliot Wave Principle" states that it is "a form of technical analysis that investors use to forecast trends in the financial markets and other collective activities.”

Elliot Wave Theory was developed by a man named Ralph Nelson Elliot in the 1930's and refined through the 40's that attempts to use recurring past price patterns to predict future prices (the basis of all technical analysis).  Elliot found that market prices form repeated waves, on any time scale one cared to look at, no matter how small or how large (the concept of fractals can be useful here). And he found that these waves come in basic patterns.

Elliot believed that these waves consistently come in a 5-wave pattern in the direction of the "parent" (main) trend, followed by a 3-wave pattern against that trend. In the 5-wave pattern (called the "Motive" phase) you would have waves 1,3, and 5 following the main trend and waves 2 and 4 acting as "correction" waves.
Then we come to the 3-wave pattern, going against the main trend, in which it is waves 1 and 3 that are the "corrective" waves and wave 2 is a "distraction" wave. The above described process constitutes one complete cycle (for a given scale).

Is this making any sense to you? Probably not and I know it really didn't for me. Which is why I ended up buying the book for myself. While not overly complex (anyone can understand and do it) it is also not a simple method of analysis and is best explained by the experts. Of which I am most certainly not one which is why I do recommend this book for anyone curious about Elliot Wave Analysis.

It is not a book about day-trading or a book full of promises that you can get rich quick trading. You will be sorely disappointed if that is what you're after, which you shouldn't be anyway. It is a book about mass social psychology, market behavior, and market history. And about how these things can work for you if you understand them. What it is is an interesting and very worthwhile book that will add to your market understanding and, if applied properly, help you be more profitable in your trading or investing. You've probably heard of Fibonacci mathematics and may even use them to some degree in your technical analysis. Well, this book is full of Fibonacci mathematics concepts (don't worry, you won't be doing any advanced maths yourself) and that content alone makes the book worth the read.

Prechter's book attempts to teach you how to spot the Elliot wave patterns, and therefore be able to predict more accurately where the market (or single stock issue) might go next based on where it currently is in the cycle. Prechter's Elliot Wave Principle does an admirable job of imparting to readers all they need to know to get started right away incorporating basic, and advanced wave analysis into their trading arsenal. Elliot Wave Analysis has a large following of technical analysts all over the world and has stood the test of time for over 70 years

Prechter has made some epic calls over the years but he has also taken a lot of heat lately over his calls over the last couple years for a coming "deflationary depression."
The fact of the matter is though that it is much much too early to call him wrong at this point (though I myself am not in the deflation camp).

We think it's definitely worth a read. Especially for free.

Market Madness Daily Market Update - 3/8/12

It was a good day for bulls today.

The action driving headline of the day comes courtesy of the EZ:
"Greece Confident of Bond Swap Approval"
And later in the day...
"Greece Swap Deadline Passes as Investors Signal Deal"
While it's great that this chapter of the drama has been closed the most likely outcome will simply be the opening of the next, even more dramatic chapter. The EZ will be signing the blues for some time yet and will continue to negatively impact US firms and markets. But can US economic strength (if any exists) overwhelm EZ economic weakness?


After its largest 2-day gain since Mid-December the S&P 500 managed today to finish convincingly above its close of Monday. A key level in our analysis and one that we mentioned in a Mid-Day Madness blurb earlier would need to be crossed for confirmation of the nature of this pullback. Market Madness now feels that the verdict is in and that this rally will likely continue, for now. As we have pointed out previously both the duration and magnitude of pullbacks (and therefore volatility) has been steadily decreasing since the Oct. 4 bottom. This trend now has no more room to run as these pullbacks simply cannot get any smaller in duration and magnitude. If this market does indeed make another run upwards Market Madness' technical analysis suggests it is likely to be a relatively short, steep run followed by an equally short and steep decline as volatility first evaporates, and then explodes upwards. This analysis, however, is based solely on the technicals, and past price patterns of a similar nature and should be incorporated into a more complete analysis.

Another potentially positive development for this market rally was today's performance of tech, and high beta issues. The NASDAQ Composite measure finished the day with a gain of 1.18%, or 34.7 points, outperforming the large caps and DOW components by a respectable margin. Apple, of course, continues to be the driving force behind this index and where she goes, the index goes. Apple had a nice 2%+ day today, therefore dragging the COMP up along with it. Technicals overall improved significantly today and MACD and the COMP:SPX relative strength ratio in particular showed improvement, with the relative strength reading reversing its "sell" signal from the beginning of the week.

The strongest performance of the day though came from the small cap RUT index. She posted an impressive gain of over 1.3% today. This gain is made even more impressive by the fact that, in contrast to the other majors, the RUT actually fell sharply at the open, completely erasing its overnight gap up. By 11:15 EST, however, it had fought its way back up to even. From there it then proceeded to steadily drift upwards for the remainder of the day, closing at 806.34. This was the first day of technical improvement for this index in a shockingly long time. MACD readings flattened from decline and our RUT:COMP relative strength measure not only improved, but is now showing signs of a possible bottoming and reversal. This is one of the signs we previously said we would need to see to get bullish on this index. We are not there yet but today was a crucial first step.

The VIX volatility measure declined steeply again on today's gains, finishing down 1.12 points for a 5.87% loss. We believe that the bottom is basically in for the VIX. We have previously mentioned on several occasions our view that the VIX may have been forming a bottom over the last few weeks and our analysis is now suggesting that that process is near completion. We recommend keeping close tabs on the VIX over the next few days and watching for either a bounce off of, or a clean break through our multi-year bottom support at around the 16.5 level.

The last week has been an important "proving" event for this rally. If we can finish this week solidly in the green Market Madness will be much more positive on this market than we have been of late. This is largely because we believe that significant sidelined capital could come out to play if such an event comes to pass.

Stay safe out there!

A Mid-Day Madness Blurb

Markets have fought valiantly higher today to approach Monday's closing level as of this writing. Supposedly on "Greek deal hopes."

Market Madness would need to see a close above Monday's level before concluding the pullback is over, however. That we are seeing this rebound on a day when unemployment claims are up, and the Greece situation is unchanged (media chaeerleading aside) does suggest that this is indeed a simple pullback.

See you for our Daily Market Madness Recap!

Market Madness Daily Market Update - 3/7/12

Indices today managed to recover a sizable portion of their losses of the last couple days on a positive ADP jobs report that beat consensus by a small margin. Enough to cheer buyers anyway.

The S&P 500 came up off its trend line right from the starting bell, and never looked back this morning, finishing strongly with over 9 points of gain (+0.69%). If buyers can dominate the action tomorrow it will seem increasingly likely that this pullback was just that, a healthy pause before continuation of the run. Color us skeptical, however.

Relative strength was also with the small caps and high beta tech issues today which is another possible positive indicator for rally continuation. The RUT outperformed today with a gain of over 1%, at 8.86 points, eating up a good deal of yesterday's fall and bringing it back above the important 50 DMA. However, there is still a lot of work to be done on this index before we get positive on it again.

The one index we were relatively bullish on, the semiconductors, performed admirably today with a gain of +1.55% after its mid-day bounce off the 400 support level. We still think this index could run faster and further than others if the bullish euphoria were to resume.

In summary we think the likelihood that this selling was simply a healthy correction in an ongoing bull market increased significantly today and will be watching very closely for signs of follow through in the morning.
Good Luck!

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Please feel free to poke around in our Market Madness Metals section (and others which, if started at all, are much less complete) and send or leave us your suggestions or comments!

Market Madness Daily Market Update - 3/6/12

Presented late and with little comment tonight.

We finally had the expected pullback, with indices losing about 1.5% across the board. We had encouraged our readers to be defensive over the last few days, and possibly consider going long volatility. That view proved a winner today but many of the majors now sit right at support so we shall see what tomorrow brings. As you can see below the SPX found support at its multi-month trend line and this will be an important level to watch tomorrow.

Our ugly duckling of the year, the small cap RUT index, resumed its pattern of underperformance today, Losing just over 2% to the 1.5% of the SPX. Adding to the ugliness today was a clean break under the 50 DMA. This one has some room to run before encountering next significant technical support and remains the ugliest of the bunch.

We also mentioned on Friday to look for the 400 level to act as support in the semiconductor index and that is indeed what we saw today. Whether it stays above that level or not is another story and one we will have to watch unfold.

Last, but most certainly not least we have the VIX below. Market Madness has been mentioning frequently (here, here, here)our view that the VIX has been forming a bottom over the last few weeks. Today saw a near 16% jump and one mean gap up. Our view is that volatility could further run up into the mid 20's fairly easy on a bad piece of news right now and we like a long position in TVIX (the 2x VIX short-term ETN).

See you next time and stay safe out there!

Mid-Day Madness Recap

Well, for the handful of you out there who have caught on to this site we hope you benefited from our analysis of the past week. If you were sympathetic to our thesis and acted accordingly, you should be sitting just fine today. If not well, better luck next time!

The major indices are down about -1.5% as of this writing. By far the ugliest day of the year to date.
We mentioned in out newsletter yesterday that "tomorrow should provide more clarity." We believe it has done that today and are advising our followers to adopt a more defensive posture for the immediate future. Those that have not already done so, that is.

See you for our Daily Market Madness Recap!

Market Madness Daily Market Update - 3/5/12

Two red days in a row now. What is the world coming to?
Its senses, maybe? Nah, probably not.
But bear biases aside what is price action saying? After all what we, or anyone, think the market should be priced at is irrelevant. Price is truth.

The bears were mostly able to hold their ground today, with minor to mild declines across most indices. One small, and surprising exception to this came in the form of the small cap RUT index (Russell 2000). We have been somewhat badmouthing the RUT for awhile now for its poor performance relative to other indices but it isn't terribly surprising that she outperformed to correct some of that divergence today. The question is can it be followed up by a stronger performance? If we don't see more capital inflow to the small caps and high beta issues soon this rally will stagnate, or even falter.

And back below the 2011 highs we go. It's to be expected that we would flirt with this level for awhile but bulls probably would have liked to at least see a successful bounce off that 1370ish area, acting as support. Though we still have not had even a single 1%+ down day yet this year in the SPX, with today being about a 5 point loss for -0.39%. However, MACD weakened further and relative strength slowed its advance against the small caps. It's a mixed bag at this point instead of the all positives of weeks past but it could still go either way. Tomorrow should provide more clarity we think. The outperformance in the RUT can clearly be seen in the relative strength readings of both the RUT/COMP above, and the SPX/RUT below.

We want to very briefly touch on volatility measures. In our weekly report published Sunday we mentioned our view that the VIX has been forming a bottom and could be setting up for one of its classic spikes. Today the VIX made a move upward of +0.76, to 18.05 for a 4.4% gain on the day. It was, however, up over 7% at some points in the day. We think buying volatility as a hedge may be a good play right now if you are still heavily invested in the market

That's it for today! See you next time and stay safe (and lucky) out there!

Market Madness Weekly Market Update - 3/2/12

Overall most major indices finished the week relatively unchanged with the one exception being the small cap RUT, which took a bit of a beating.

A mostly uneventful week in the large cap S&P, it ended with a slight gain of about 4.5 points (+0.33%). After an initial push up to, and then just above its 2011 high at 1370 the index essentially oscillated around that level for the rest of the week, finishing less then a point below that at 1369.72. On the weekly time frame this index and its chart remain relatively healthy. Though seemingly in need of some correction, or at least cooling off period before resuming its move. If it is to resume that move. We have some doubts.

Taking a look at the semiconductor index this week we see last week's turn in the chart is followed up by more bearish action. Though not apparent in the numbers alone, with a paltry one point loss for the week, it is clearer in the charts and indicators. A failed push up early in the week, followed by rapid deterioration and an eventual finish near the lows, left behind the bearish binary options candle formation seen in the chart below. MACD and Stochastics also continued to weaken noticeably. If bears hold the reigns come Monday and current support at 420 should be lost, look for the 400 level as the next likely support and potential rebound area. The 400 level is a fairly important level for this index right now and should be watched in the coming days and weeks.

Our index to watch of the week was, of course, the RUT. This index had been under pressure since the beginning of February and it appears it may have finally buckled under that pressure. We'll be watching closely Monday. From a technical standpoint there is absolutely nothing to like about this index in the short term. On a valuation basis? Eh. We are not overly excited about this index. The next hint of support lies around the 770 mark and we expect this level to be tested in the coming weeks should overall market weakness continue beyond last week's end.

What about volatility? The VIX was basically flat for the week after a spike up above 19 early on. Vol. measures were acting hinky last week but at least part of that may be explained by end of month options activity. Nevertheless, Market Madness is inclined to the view that we are forming a bottom here. This possibility can be seen in the chart below happening over the last six weeks. Keep an eye or two here next week as well.

In summary for this week: We feel that a cautious approach is the most prudent one for the immediate future. A comfortable spot entirely on the sidelines actually may not be such a bad idea.

Good Luck!