Elliott wave theory for stock novices!!

It is indeed share market novices need some more concrete learning before formulating their strategies to enter in to the stock market. As a novice myself i suggest wave theory is extremely fascinating.  Just go through it.............

The Elliott Wave Theory is named after Ralph Nelson Elliott. Inspired by the Dow Theory and by observations found throughout nature, Elliott concluded that the movement of the stock market could be predicted by observing and identifying a repetitive pattern of waves. In fact, Elliott believed that all of man's activities, not just the stock market, were influenced by these identifiable series of waves.

Definition of Elliott Waves

In the 1930s, Ralph Nelson Elliott found that the markets exhibited certain repeated patterns. His primary research was with stock market data for the Dow Jones Industrial Average. This research identified patterns or waves that recur in the markets. Very simply, in the direction of the trend, expect five waves. Any corrections against the trend are in three waves. Three wave corrections are lettered as "a, b, c." These patterns can be seen in long-term as well as in short-term charts. Ideally, smaller patterns can be identified within bigger patterns. In this sense, Elliott Waves are like a piece of broccoli, where the smaller piece, if broken off from the bigger piece, does, in fact, look like the big piece. This information (about smaller patterns fitting into bigger patterns), coupled with the Fibonacci relationships between the waves, offers the trader a level of anticipation and/or prediction when searching for and identifying trading opportunities with solid reward/risk ratios.

There have been many theories about the origin and the meaning of the patterns that Elliott discovered, including human behavior and harmony in nature. These rules, though, as applied to technical analysis of the markets (stocks, commodities, futures, etc.), can be very useful regardless of their meaning and origin.

Simplifying Elliott Wave Analysis
Elliott Wave analysis is a collection of complex techniques. Approximately 60 percent of these techniques are clear and easy to use. The other 40 are difficult to identify, especially for the beginner. The practical and conservative approach is to use the 60 percent that are clear.

When the analysis is not clear, why not find another market conforming to an Elliott Wave pattern that is easier to identify?

From years of fighting this battle, we have come up with the following practical approach to using Elliott Wave principles in trading.

The whole theory of Elliott Wave can be classified into two parts:

�	Impulse patterns
�	Corrective patterns

Elliott Wave Basics � Impulse Patterns
The impulse pattern consists of five waves. The five waves can be in either direction, up or down. Some examples are shown to the right and below.The first wave is usually a weak rally with only a small percentage of the traders participating. Once Wave 1 is over, they sell the market on Wave 2. The sell-off in Wave 2 is very vicious. Wave 2 will finally end without making new lows and the market will start to turn around for another rally.

The initial stages of the Wave 3 rally are slow, and it finally makes it to the top of the previous rally (the top of Wave 1).
 

At this time, there are a lot of stops above the top of Wave 1.
 

Traders are not convinced of the upward trend and are using this rally to add more shorts. For their analysis to be correct, the market should not take the top of the previous rally.
 

Therefore, many stops are placed above the top of Wave 1.

 

The Wave 3 rally picks up steam and takes the top of Wave 1. As soon as the Wave 1 high is exceeded, the stops are taken out. Depending on the number of stops, gaps are left open. Gaps are a good indication of a Wave 3 in progress. After taking the stops out, the Wave 3 rally has caught the attention of traders.
 

The next sequence of events are as follows: Traders who were initially long from the bottom finally have something to cheer about. They might even decide to add positions.
 

The traders who were stopped out (after being upset for a while) decide the trend is up, and they decide to buy into the rally. All this sudden interest fuels the Wave 3 rally.
 

This is the time when the majority of the traders have decided that the trend is up.
 

Finally, all the buying frenzy dies down; Wave 3 comes to a halt.
 

Profit taking now begins to set in. Traders who were long from the lows decide to take profits. They have a good trade and start to protect profits.This causes a pullback in the prices that is called Wave 4.
 

Wave 2 was a vicious sell-off; Wave 4 is an orderly profit-taking decline.
 

While profit-taking is in progress, the majority of traders are still convinced the trend is up. They were either late in getting in on this rally, or they have been on the sideline.
 

They consider this profit-taking decline an excellent place to buy in and get even.

 

On the end of Wave 4, more buying sets in and the prices start to rally again.
 

The Wave 5 rally lacks the huge enthusiasm and strength found in the Wave 3 rally. The Wave 5 advance is caused by a small group of traders.
 

Although the prices make a new high above the top of Wave 3, the rate of power, or strength, inside the Wave 5 advance is very small when compared to the Wave 3 advance.
 

Finally, when this lackluster buying interest dies out, the market tops out and enters a new phase.

Elliott Wave Basics � Corrective Patterns
Corrections are very hard to master. Most Elliott traders make money during an impulse pattern and then lose it back during the corrective phase.
 

An impulse pattern consists of five waves. With the exception of the triangle, corrective patterns consist of 3 waves. An impulse pattern is always followed by a corrective pattern. Corrective patterns can be grouped into two different categories:

�	Simple Correction (Zig-Zag)
�	Complex Corrections (Flat, Irregular, Triangle)

Simple Correction (Zig-Zag)
There is only one pattern in a simple correction. This pattern is called a Zig-Zag correction. A Zig-Zag correction is a three-wave pattern where the Wave B does not retrace more than 75 percent of Wave A. Wave C will make new lows below the end of Wave A. The Wave A of a Zig-Zag correction always has a five-wave pattern. In the other two types of corrections (Flat and Irregular), Wave A has a three-wave pattern. Thus, if you can identify a five-wave pattern inside Wave A of any correction, you can then expect the correction to turn out as a Zig-Zag formation.
 

Fibonacci Ratios inside a Zig-Zag Correction

Wave B

Usually 50% of Wave A Should not exceed 75% of Wave A

Wave C

either 1 x Wave A or 1.62 x Wave A or 2.62 x Wave A

A simple correction is commonly called a Zig-Zag correction.

Complex Corrections (Flat, Irregular, Triangle)
The complex correction group consists of 3 patterns:

�	Flat
�	Irregular
�	Triangle

Flat Correction
In a Flat correction, the length of each wave is identical. After a five-wave impulse pattern, the market drops in Wave A. It then rallies in a Wave B to the previous high. Finally, the market drops one last time in Wave C to the previous Wave A low.

 

Irregular Correction
In this type of correction, Wave B makes a new high. The final Wave C may drop to the beginning of Wave A, or below it.

 

Fibonacci Ratios in an Irregular Wave

Wave B = either 1.15 x Wave A or 1.25 x Wave A

Wave C = either 1.62 x Wave A or 2.62 x Wave A

Triangle Correction
In addition to the three-wave correction patterns, there is another pattern that appears time and time again. It is called the Triangle pattern. Unlike other triangle studies, the Elliott Wave Triangle approach designates five sub-waves of a triangle as A, B, C, D and E in sequence.

 

Triangles, by far, most commonly occur as fourth waves. One can sometimes see a triangle as the Wave B of a three-wave correction. Triangles are very tricky and confusing. One must study the pattern very carefully prior to taking action. Prices tend to shoot out of the triangle formation in a swift thrust.
 

When triangles occur in the fourth wave, the market thrusts out of the triangle in the same direction as Wave 3. When triangles occur in Wave Bs, the market thrusts out of the triangle in the same direction as the Wave A.
 

4. Horizontal Triangle : 5-wave triangular pattern composed of 3-3-3-3-3 sub-wave structure.
5. Double Three : abcxabc pattern composed of any two from above, linked by x wave.
6. Triple Three : abcxabcxabc pattern composed of any three from above, linked by two x waves. 
   
7. Alteration Rule If Wave Two is a simple correction, expect.....
   

Wave Four to be a complex correction.
If Wave Two is a complex correction,
expect Wave Four to be a simple correction.

Simple  diagram of correcting the wave:

        ___Ajith Bsc MBA

                                                                                                                                       

If intraday is your metier then you must know

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  Intraday is a tricky business even for some experienced wizards in the field, although none cant master everything. But the following phrases are very propitious if you are an 1st time speculator .
  
  
  
  
  

  
  
  
           If index is in positive from yesterday and the share you are holding is in minus then it should be cut and if intraday trend of index is in buy then one should buy a stock in which is in plus.
  
  
  
  
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  If index is in minus then one should look to short stocks which are minus and not stocks which are in plus. 
   
  
• It is not necessary that a stock which is weak today during intraday trading might be weak tomorrow also, simultaneously if a stock is strong today might not be strong tomorrow
  
  
  
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  If US Markets have gone up overnight, the markets here in all probability will open strong, so one should be quite careful when buying stocks as the general psychology of public is to buy when good news is there.
  
  
  
  
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  Being a contrarians is very important while trading intraday.
  
  
  
  
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  Stop loss is a must while trading intraday.
  
  
  
  
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  Always trade in very liquid stocks i.e. which have very high volume because as entry and exit can be very fast in such stocks.
  
  
  
  
• Do paper trading before you actually start trading so that when you start making paper profits, then shift to actual trading.
  
  
  
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  Keep your volume constant e.g.: if you trade in five lots of nifty future then trade in five lots only. This position can be increased only when you are satisfied with your trading for a month. It should not be that one day you buy five lots and next day you trade in ten lots and third day you get a loss and stop trading for two days.
  
  
  
  
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  Fear and Greed are at maximum levels while trading intraday so always have less position when you are new to intraday trading as otherwise you will be mostly under tension.
  
  
  
  
  

Essential investing Principles by Charlie Munger

Charlie Munger is the partner of Warren Buffet and is considered by many to be the brain behind Buffet’s success. I found his investment principles which are worth reading.
Risk – All investment evaluations should begin by measuring risk, especially reputational.

• Incorporate an appropriate margin of safety
• Avoid dealing with people of questionable character
• Insist upon proper compensation for risk assumed
• Always beware of inflation and interest rate exposures
• Avoid big mistakes; shun permanent capital loss
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Independence – “Only in fairy tales are emperors told they are naked”

• Objectivity and rationality require independence of thought
• Remember that just because other people agree or disagree with you doesn’t make you right or wrong – the only thing that matters is the correctness of your analysis and judgment
• Mimicking the herd invites regression to the mean (merely average performance)

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Preparation – “The only way to win is to work, work, work, work, and hope to have a few insights”

• Develop into a lifelong self-learner through voracious reading; cultivate curiosity and strive to become a little wiser every day
• More important than the will to win is the will to prepare
• Develop fluency in mental models from the major academic disciplines
• If you want to get smart, the question you have to keep asking is “why, why, why?”

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Intellectual humility – Acknowledging what you don’t know is the dawning of wisdom

• Stay within a well-defined circle of competence
• Identify and reconcile disconfirming evidence
• Resist the craving for false precision, false certainties, etc.
• Above all, never fool yourself, and remember that you are the easiest person to fool
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“Understanding both the power of compound interest and the difficulty of getting it is the heart and soul of understanding a lot of things.”

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Analytic rigor – Use of the scientific method and effective checklists minimizes errors and omissions

• Determine value apart from price; progress apart from activity; wealth apart from size
• It is better to remember the obvious than to grasp the esoteric
• Be a business analyst, not a market, macroeconomic, or security analyst
• Consider totality of risk and effect; look always at potential second order and higher level impacts
• Think forwards and backwards – Invert, always invert
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Allocation – Proper allocation of capital is an investor’s number one job

• Remember that highest and best use is always measured by the next best use (opportunity cost)
• Good ideas are rare – when the odds are greatly in your favor, bet (allocate) heavily
• Don’t “fall in love” with an investment – be situation-dependent and opportunity-driven
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Patience – Resist the natural human bias to act

• “Compound interest is the eighth wonder of the world” (Einstein); never interrupt it unnecessarily
• Avoid unnecessary transactional taxes and frictional costs; never take action for its own sake
• Be alert for the arrival of luck
• Enjoy the process along with the proceeds, because the process is where you live
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Decisiveness – When proper circumstances present themselves, act with decisiveness and conviction

• Be fearful when others are greedy, and greedy when others are fearful
• Opportunity doesn’t come often, so seize it when it comes
• Opportunity meeting the prepared mind; that’s the game
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Change – Live with change and accept unremovable complexity

• Recognize and adapt to the true nature of the world around you; don’t expect it to adapt to you
• Continually challenge and willingly amend your “best-loved ideas”
• Recognize reality even when you don’t like it – especially when you don’t like it
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Focus – Keep things simple and remember what you set out to do

• Remember that reputation and integrity are your most valuable assets – and can be lost in a heartbeat
• Guard against the effects of hubris (arrogance) and boredom
• Don’t overlook the obvious by drowning in minutiae (the small details)
• Be careful to exclude unneeded information or slop: “A small leak can sink a great ship”
• Face your big troubles; don’t sweep them under the rug....

These are the excerpts from  Charlie Munger's speeches. I hope it will be very useful for an independent investor more than any thing else......