# How to Trade the Basic Elliot Wave Theory Design

### Video Transcription:

Hello, traders. Welcome to the Elliott Wave Theory course, and the first module, Introduction to the Elliott Wave Theory. In this lesson, I’m going to teach you how to trade the basic design. I’m going to teach you how you can use the Fibonacci ratio to calculate where each wave are likely to end. We are going to take two different trade examples on the basic design, one on the A, B, C, and one on the 1, 2, 3, 4, 5.

All right traders, so here we have the GBP/USD 4-hour chart, and the first thing we are going to do is we are going to look for the first 1, 2, 3, 4, 5 pattern. The first thing we’re going to do is we’re going to try to find the first wave, and as you can see, we have the first move to the upside right here, so we can actually point out that this is the one wave of the 1, 2, 3, 4, 5 pattern. Let me just correct the text right here, and right here we have the first wave.

Why is this the first wave? You can see that inside the first wave, we also have a 5-wave pattern. We have the first, second, third, fourth, and fifth wave. If you look closely inside the first wave, you can see that we continue to make higher highs and higher lows, and it’s not until we make this low right here that we have broken with the up structure of the first wave, so this is actually the start of the second wave, which is a very small wave that ends right here. Let me just put on a 2, to point out that this is the second wave of the 1, 2, 3, 4, 5 pattern. You can see right here that we have the end of the third wave, we continue to make higher highs and higher lows, and then we break with the up structure of the third wave, meaning that this is the end of the third wave.

Of course, you note that the fourth wave cannot go lower than the high of the first wave, so, when price comes all the way down here, you can see that buyers come into the market. Price has support a few pips above the high of wave 1. We can know for sure that this is actually the end of wave 4, and of course the peak of the formation is wave 5. Remember that this is the 4-hour chart, so we are looking at very big trades. For instance, the entire pattern from the bottom of the first wave to the top of the fifth wave is about 1,254 or 1,255 pips.

There’s a few things that you need to know for sure, and one of them is how to calculate the end of wave 3, for example. This is a very easy wave to calculate the end of wave 3, or the zone where wave 3 might end. Let’s say that you took a long trade when price broke with the high of wave 1. Let’s face it, it’s very hard to pinpoint the bottom of wave 2, and of course you can take the trade when you see the buyers come into the market, but for breakout traders, it’s easier to take a long trade right at this zone, when price breaks with the high of wave 1.

Remember that you have to have your stop-losses below the low of wave 2, which gives you a stop-loss of about 200 pips. Now, 200 pips is a lot of pips to be risking. If you are swing traders, you already know that your positions when you swing trade are way smaller than if you were just scalping or day trading.

How to know if the risk to reward ratio is good enough to take the trade at the break out of this high? You’re going to grab a Fibonacci extension tool, you’re going to start at the bottom of wave 1, then you’re going to go to the top of wave 1, and you can see that you have this little thing right here that comes all the way back to the bottom of wave 1. If you look closely, we have…I’m going to get rid of the 113 Fibonacci extension because we only care about the 161.8 Fibonacci extension. This is the zone that, and let me just use another line because the color on this one is just too bright. This is the zone that you are going to be closing your trade at. If you don’t have at least a 1:1, you’re not going to take the trade. I mean, you’re risking 220 pips to make 300 pips, so I think that the trade is good enough.

As you can see, price moves even further from the 161.8. This is another rule, well not another rule, but another little trick that you can use when you’re trading with the Elliott Wave Theory. If you trade wave 3, always close your trade or put your limits at the 161.8, because remember that when we are trading with the Elliott Wave Theory, we don’t have levels to work with. Let’s say that we want to trade wave 5. First of all, it’s easier to trade, and in my opinion, is the best risk to reward ratio that you are going to get, trading the Elliott Wave Theory. The reason is because, let me just put this right here, it’s because we have the rule that wave 4 can never come below the high of wave 1.

If you grab, for example, a Fibonacci retracement from the bottom of wave 1 to the top of wave 3, and let me just get rid of the Fibonacci ratios that we are not going to be using, so it doesn’t get too difficult to look what I’m trying to point out. You are going to be looking always at the 38.2 Fibonacci retracement from the bottom of wave 1, to the top of wave 3. This is going to be your buy zone, and your buy zone is going to be between the 38.2 and the high of wave 1. Why? Because if price comes back and breaks with the high of wave 1, this is no longer a valid 1, 2, 3, 4 pattern, and you must exit your trade.

Let’s say that you put your pending order right here at 1.5124, and you have your stops all the way here, so you are risking 90 pips in this trade. Because you are catching actually the beginning of wave 5, you are going to be making at least 400 pips. Let me show you first where your stops are going to be placed at. Your stops are going to be placed, I’m sorry. I’m going to use the other kind of line, this one. And your stops are going to be placed right here, below the high of wave 1. Why? Because if we break with the high of wave 1, this is no longer a 1, 2, 3, 4, 5 pattern, or a valid 1, 2, 3, 4, 5 pattern. Your entry or your pending orders are going to be placed somewhere around the 38.2. You are actually risking 100 pips.

You are going to take out half of your position right here, at the top of wave 3. Why are you going to take half of your position at the top of wave 3? Because this is the last zone of resistance that you are going to be encountering. You are going to be making 361 pips and risking 100 pips. When you make those 361 pips and take out 50% of your position, you are going to be setting your stops to break-even, and letting the risk of your position ride.

This is basically how you’re going to be trading the 1, 2, 3, 4, 5 pattern of the basic design. But remember that we have the A, B, C corrective move, and because we already know that this is the final peak of the fifth wave, we are going to be trying to fade the move that just went up. This means that we are going to be counter-trend trading with the A, B, C. We are never going to trade the first wave or the second wave. We are always going to be trading wave C. This is easy. Of course, when we break with the up structure of wave 5, this is no longer a corrective move, but an A, B, C pattern, so we are going to name the bottom of this move, wave A, and the top of this move, wave B.

How are we going to be trading wave C? That’s easy. It’s not easy, of course, but what you’re going to be doing is, first of all, taking out the Fibonacci extension tool, and you are again going to use the 161.8 Fibonacci extension right here, you can see. This is the 161.8 Fibonacci extension from wave A. You can see that we hit right at the 161.8 on wave C for a nice 500 pip move. Of course, where is the entry of this trade? We are going to grab a Fibonacci retracement tool to pinpoint the entry of our position.

Let me just take the Fibonacci ratios that we are going to use for the end of the B wave, which are the 50 and the 61.8, right there. And you are going to put on the pending order right here in the middle of the 50 or 61.8, and you are going to be, of course, putting your stop-losses all the way up here. The way you’re going to be putting your stop-losses all the way up here, because you are going to look at the end of wave 5 and the beginning of wave A, and you are going to look for the next area of resistance, and this is the area of resistance that we are going to be looking at, so your stop-losses are going to be this. Right now, you will be risking 63 pips to make 450 pips. This is basically how you’re going to be using the Fibonacci ratios to pinpoint your entries, and to pinpoint your exits when you are trading with the Elliott Wave Theory.

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