5 Wave Model Basics

The 5 Wave Model is based on the idea that there is a single, identifiable relationship between waves, or price movements, that governs market behavior. This unique relationship can be found in each five wave price sequence, and occurs only at the termination point of that sequence.

As prices move in one direction or another, highs and lows are created, each one identifying a possible wave. Once five possible waves have formed, and for each addition wave thereafter, different potential wave scenarios are analyzed, until the model’s wave relationship criteria are met. This relationship consists of waves 1, 3, and 5 reaching our correlation threshold. We have found that in a given five wave sequence, the lengths of these waves are dependent on a specific characteristic generated by the wave sequence itself. This correlation can be shown for each five wave sequence we have identified here, and for each five wave sequence we have identified in over 80 years of market data. Each termination point in a five wave sequence then marks the end point of the next larger wave. Our threshold value is quite high, requiring an R^2 value of .99 or greater.

Because the model requires five waves of data to identify termination points, wave structure is sometimes difficult to identify before that point, unless marked by ending points of wave sequences of smaller degrees. Analyzing a wave during construction can at times be fluid, depending on how the waves unfold. Since our model is based on a correlation threshold, the ranges given for projected termination points can sometimes be large enough to allow for some movement within the range before a top is formed, or small enough to allow possible misinterpretation due to overlapping targets. At times these cannot be resolved until taken in context of a larger degree wave.

The basic wave structure is quite straight forward, with waves 1, 3, and 5 generally being in the direction of the trend, and waves 2 and 4 being counter trend moves.

Three separate correction waves have been identified with our model. The first is a basic five wave structure, following the same format as the basic wave structure.

The second is the Inverted Correction Wave. In this wave, wave 1 is a countertrend move to the previous wave. Wave 2 however moves beyond the termination point of the previous wave. Wave 3 another countertrend move, wave 4 again moves in the direction of the previous wave’s trend, with wave 5 the final countertrend move. These moves can be quite explosive. They can be identified because the correlation between waves 1, 3, and 5 occur before a next degree 5 wave sequence can be identified using the previous wave sequence.

The third type of correction is the Semi-Inverted 5 Wave Correction. With This wave, waves 1 and 2 develop as they do in the Inverted Correction Wave, but then wave 3 falls back below the termination point of the previous sequence, and after a wave 4 countertrend move wave 5 terminates below wave 5. This wave can be identified in the same manner as the Inverted Correction Wave.

Here we have covered the basic tenets of the model, and described the basic wave groups. We hope this helps in understanding our analysis of the model.