In a sense, the Wave Principle, developed by R. N. Elliott, is not truly a cycle theory. True cycles are observed repetitions of events at stated intervals. Aside from the economic cycles previously referred to, some examples of similar cyclical phenomena which have been discovered in the natural sciences are the 18-year sunspot cycle, the 9.2-year cycle of grasshopper abundance and the 17-year earthquake cycle. (There is an interesting 9-year cycle of electric potential gradients of earth-air current in London which could conceivably effect the amino-acid blood balances of individuals living in the city. A likely result would be a fixed periodicity rhythm of optimism and pessimism. I leave that subject for further investigation!)
Elliott had no intention of making any further contribution to the many cycles of fixed periodicity which were being discovered in his day. He believed that just because the stock market behaved in a certain manner, one, two, five, ten or twenty years ago there was no reason why it should behave in the same manner during a succeeding time frame of the same magnitude. He steadfastly refuted the “decentennial pattern” of Edgar Lawrence Smith who claimed to have discovered a 10-year pattern in share prices in 1938.
“It will work until it stops working,” was Elliott’s comment.
Not unlike the basis of Charles Dow’s investigation, any classification of Elliott’s work into the cyclical variety must be so quantified as having psychological derivations. The psychological theorists of market action are those analysts who place more stress on, or attribute more independent influence to, action and reaction, rather than cause and effect. Whatever the cause of a change in expectation in share prices, it is the consequence of that change, including the concomitant element of uncertainty, that the “psychological” theorist believes will trigger the next phase of the cycle.
Periodic repetition is irrelevant to the study of share price movements whose motivation is largely emotional. This was recognised both by Charles Dow and R. N. Elliott. The tenets of Elliott state that the waves will unfold somewhat regardless of the time element, and that each subsequent wave will reflect investors’ response to the extent and duration of the previous wave. Here is the only important time frame reference. That is, each wave must be related to the previous wave in terms of time, but need not follow a path of fixed periodic repetition. While this time frame reference may seem somewhat vague, it will prove to be the most important element in wave classification and offer the most pragmatic approach to the subject of cyclicality ever devised.
As the Elliott cycle unfolds one will find a series of “impulse moves” which ultimately rise to a level of excess due to over-speculation. These “impulse moves” will then give way to corrective moves so that the excesses can be eliminated and the cycle proceed. The time frame relationship is that a “corrective move” must lie within a similar time frame to that of the “impulse move”. In other words, if we are dealing with an “impulse move” of two weeks in duration the “corrective move” should be of a similar duration, say seven or eight days. If we are dealing with an “impulse move” of two or three years in duration, such as suggested time frame cyclicality of bull markets in the U.S., the “corrective move” would take place over a period of 18 months or so. As we develop the wave theory, we will see the manner in which the time cycle is developed in accordance with the periodicity of the various moves in the cycle. What I have said thus far is primarily to demonstrate the difference between Elliott’s concept and that of other cyclical concepts dealing with fixed cycle periodicity.
Classification of Waves
Probably the best way to gain a perspective of the time frame relationships is the classification of waves that appeared in the April 1974 issue of Accountancy Magazine, the Journal of the Institute of Chartered Accountants in England and Wales.
“Elliott’s actual classification of the various waves by degree in order of decreasing magnitude – designed to cover everything from the smallest imaginable wave formation involving the hourly moves in the index, for a formation lasting 200 years or more – were as follows:
Grand super cycle. This was designed to cover the longest possible measurable time period. As of our current historical records, we have no concrete evidence of the completion of a grand super cycle, since Elliott’s records only go back to the mid-1800s. According to Elliott, Wave I of a grand super cycle began in 1800 and ran to 1850, Wave II from 1850-1857, Wave III from 1857-1928, Wave IV from 1929-1949, and according to the principle, we remain in Wave V of a grand super cycle, which could stretch for several years more. Obviously, the risks are far greater for investors now than they were when we were at the early stages of the grand super cycle, such as the beginning of Wave III or even the beginning of Wave V.
Super cycle. This is the next lower degree. Elliott claims that a super cycle of five waves began in 1857 (Wave III of a grand super cycle), following the depression of the 1850s. The five waves were completed in 1929. There then followed a corrective super cycle, running from 1929 until 1949. In 1949, a new super cycle began. We have completed four waves of the particular cycle with Wave V of a grand super cycle.
Cycle. The wave pattern of the next lesser degree to the super cycle is that of the cycle. A breakdown of the 1857-1929 super cycle to cycle dimensions would give us the upmove from 1857-1864, the downmove of 1864-1877, the upmove from 1877-1881, the downmove from 1881-1896 and the upmove from 1896-1919.
Primary. The period from 1896 to 1929 represents Cycle Wave 5 of the super cycle. If we break this cycle wave down to its primary wave components, we find an upthrust from 1896-1899, a downthrust from 1899-1907, an upthrust from 1907-1909, the downthrust from 1909-1921 and the big upthrust from 1921-1929.
Intermediate. The intermediate waves of the long and glorious bull market that stretched for eight years from 1921-1929 can be subdivided into the upwave from 1921-1923, the downwave from 1923-1924, the upwave from 1924-1925, the downwave from 1925-1926 and the massive three-year upthrust that sent share prices soaring until they finally toppled over, from 1926-1929.
Minor. By this time, readers may be somewhat suspicious of the historical data used as examples, doubting the application of the Wave Principle to the current environment. If we examine the upwave in the FT30 which began in February 1971 and ended in May 1972, we find the same five-wave pattern in repetition once again. Minor Wave I began in February 1971 and was terminated in May 1971. Downwave 2 began in May 1971, ending in mid-June 1971. Minor upwave 3 began in mid-June 1971, ending in September 1971. Minor downwave 4 began in September 1971 and was completed in November 1971. The longest wave, which is practically always Wave 5, began in November 1971 and was completed in May 1972.
Minute. As can be seen, the minor waves will usually encompass the monthly movements of share prices, while the minute waves are likely to relate to the weekly movement in share prices. If we examine Minor Wave 5 of the move from November 1971 through May 1972, we find a Minute Wave 1 running upwards from mid-November to mid-January for a total of seven weeks. This is followed by a Minute Downwave 2 running down from mid-January to mid-February for four weeks. Minute Wave 3 starts in mid-February and runs until late February for two weeks. Minute Wave 4 runs downward from late February to early March for three weeks. Minute Wave 5 runs upward from early March until mid-May for eight weeks.
Minuette. If we now take the period representing the last eight weeks of the February 1971-May 1972 bull move, this period representing Minute Wave 5 of Minor Wave 5 of Intermediate Wave V, of Primary Wave V of Cycle Wave III, etc, we can break the pattern down into its minuette components, which show the daily movements. Minuette Wave 1 began on 10 March at FT30