A lesson in trading with Elliott waves

The US Treasury bond market recently offered a superb lesson in using Elliott waves to time your trades – and what to do when things don't go according to plan. John C Burford explains.

Today, I will follow up on my article of 30 July, where I covered the US T-Bond market. It's just offered a superb lesson in how I use Elliott waves and what I do when the waves do not develop as I expect.

Back then, the market was making new highs, and I set out my case for suspecting a top in that region.

I made two short trades in the 152-153 area, and I was rewarded with nice waves down.

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This is the chart I showed then:


(Click on the chart for a larger version)

Up to that point, the market was tracing out a potential classic Elliott wave pattern in five waves. My third wave was showing length and strength' a necessary requirement for me to put a third wave label on such a move.

I was getting really quite excited about the possibilities!

The importance of this forecast is that with a secure five down waves, I could say the trend had almost certainly changed to down and I should begin trading primarily from the short side.

Waiting for the fifth wave that never came

At the time, the market was tracing out a potential fourth wave, and my ideal scenario was for a new low in a fifth wave with hopefully a positive momentum divergence at the fifth wave low.

Meanwhile, I had my protective stop at break-even, as I mentioned.

And since then, this is what the market has done:


(Click on the chart for a larger version)

We had the very volatile period last Thursday, where the market made every attempt to put in that new fifth wave low.

But it failed, and the market rallied back to the 152 level, and crucially, the rally carried above my fourth wave top.

And because of this fact, I knew I had to abandon my labels! I had to abandon my dreams of big declines at least right away.

Trader tip: When the market does not do what it should', it is best to wipe the slate clean and start afresh looking for new Elliott wave labels.

Why I felt comfortable sticking with my position

But I still had my trade on. Should I just abandon that too, and take a small profit? The odds were increasing that the dip to the wave 3 low was a simple dip in the on-going bull market, paving the way for new highs.

After all, the move down to my wave 3 low has a clear three-wave form, suggesting that interpretation.

Or should I simply stay with the no-risk trade and see what develops?

This is a very common difficulty and as a trader, it's something you must address yourself. With practice and experience, it becomes easier so long as you're sticking to good money management rules.

In the end, I decided to stay with the trade, mainly because of the first chart in my 30 July email:


Interest rates were clearly ready for a rally off the lower tramline. And from experience, I know that very long-term bear markets do not turn around easily there are many attempts to get the trend back on track.

The effect of this is to produce deep upward retracements in the T-Bond market.

And this time it paid off for me!

Using the tramlines to exit the trade

Having stayed with the trade, the market gratifyingly moved lower into new low ground. So having abandoned my five-wave interpretation down, what can I expect in terms of Elliott waves?

Clearly, with this move into new low ground, I began to suspect that instead of a five-wave move, it really will turn out to be a large A-B-C down. That meant I should look to take profits on my short trades at some stage near the C wave low, if it developed.

But where? That's where the tramlines come in

Yesterday, I spotted a superb tramline pair on the hourly chart:


(Click on the chart for a larger version)

The upper tramline connects the two major peaks, while the lower tramline is not so definite, and could be drawn in slightly different places.

No matter with the clear A-B-C down, and the huge positive momentum divergence at the C wave low, this was the place to abandon ship and take a very tasty over-400 pip profit on the trades.

Making trading profitable over time

Yes, I had to work hard for this and was well rewarded. But of course, not all trades work out as well as this. Over the long haul and I consider trading as a long-term business if I can see 50% of my trades as profitable, I'm on track to make significant profits over time.

Have a great weekend and I shall get back to the exciting moves in the Dow, gold and euro next week.

I don't know about you, but I get the feeling these markets are shaping up to provide some more terrific summer action. Let's be ready for it!

I hope you found today's issue on Elliott waves useful. If you have any thoughts or observations to share with the group, please leave them below.

If you're a new reader, or need a reminder about some of the methods I refer to in my trades, then do have a look at my introductory videos:

The essentials of tramline trading

Advanced tramline trading

An introduction to Elliott wave theory

Advanced trading with Elliott waves

Trading with Fibonacci levels

Trading with 'momentum'

Putting it all together

Don't miss my next trading insight. To receive all my spread betting blog posts by email, as soon as I've written them, just sign up here . If you have any queries regarding MoneyWeek Trader, please contact us here.

John is is a British-born lapsed PhD physicist, who previously worked for Nasa on the Mars exploration team. He is a former commodity trading advisor with the US Commodities Futures Trading Commission, and worked in a boutique futures house in California in the 1980s.


He was a partner in one of the first futures newsletter advisory services, based in Washington DC, specialising in pork bellies and currencies. John is primarily a chart-reading trader, having cut his trading teeth in the days before PCs.


As well as his work in the financial world, he has launched, run and sold several 'real' businesses producing 'real' products.