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Channels provide a simple and reliable way for traders to define their entry and exit points within an equity. Although the basic channel-trading rules provide traders with a good idea of where the price is going within the channel, they leave little insight into where breakouts might occur. Identifying patterns known as Wolfe Waves and Gartleys, however, can help predict these breakouts in terms of both their timing and scope (their proportion to the established channel). This article will take an in-depth look at the channeling techniques centered on these patterns, and how they can be applied to help you profit.

Wolfe Waves
The Wolfe Wave is a natural pattern found in every market. Its basic shape shows a fight for balance, or equilibrium, between supply and demand. This naturally occurring pattern was not invented, but rather discovered as a means to predicting levels of supply and demand.

These patterns are very versatile in terms of time, but they are specific in terms of scope. For instance, Wolfe Waves occur in a wide range of time frames, over minutes or even as long as weeks or months, depending on the channel. On the other hand, the scope can be predicted with amazing accuracy. For this reason, when correctly exploited, Wolfe Waves can be extremely effective.

The overriding factor in identifying the Wolfe Wave pattern is symmetry. As shown below, the most accurate patterns exist where, between 1-3-5, there are equal timing intervals between wave cycles.

If identified correctly, Wolfe waves can be used to accurately predict the scope (equilibrium price) of the underlying security. To identify Wolfe waves, they must have the following characteristics:

  • Waves 3-4 must stay within the channel created by 1-2
  • Wave 1-2 equals waves 3-4 (shows symmetry)
  • Wave 4 is within the channel created by waves 1-2
  • There is regular time between all waves
  • Wave 5 exceeds trendline created by waves 1 and 3 and is the entry point
  • The estimated price is a price along the trendline created by waves 1 and 4 (point 6)

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