I continue my conversations with Jeffrey Kennedy, editor of Elliott Wave International's Futures Junctures Service, where subscribers get news of daily and longer-term opportunities in commodities.
Vadim Pokhlebkin: Jeffrey, in your Daily Futures Junctures, you often say that your absolute favorite Elliott wave pattern is a diagonal triangle – because they offer high-probability trade setups that can be easily identified and traded. What about the other variety of triangle formations, the contracting ones?
Jeffrey Kennedy: Well, those can be both frustrating and exciting. A contracting triangle is a sideways price move that consists of five waves labeled A, B, C, D and E. Triangles can form only as waves four, B or X – in other words, triangles always precede the final move within a sequence. That's a key point to remember. The frustrating part is that when you find yourself in the throes of a contracting triangle, they can go through all kinds of gyrations – and make you dodge those same gyrations – before finally ending in a strong thrust up or down. And that's the exciting part: After a market has contracted, it expands.
VP: Expands how? What do you mean?
JK: Take a look at this chart of a contracting triangle – it shows both the bull and bear market variety. Imagine that prices are tracing out a fourth-wave contracting triangle. The longer prices trade sideways, the swings within this move get smaller and smaller (that is, the market contracts). Once wave E of our imaginary triangle is complete, prices then thrust out of this pattern in an explosion of excitement (in other words, the market expands).
VP: And which direction does this "expansion" go?
JK: Well, remember that triangles always precede the final move within an impulsive Elliott wave sequence. They are corrective wave patterns, so you can always expect them to be completely retraced once complete. So, if it's a fourth-wave triangle you're looking at, it should resolve in wave five in the direction of the larger trend.
VP: How often do you see contracting triangles in commodities?
JK: You see them all the time, on all time frames. Like I said, they can form only as waves four, B or X, so any time you come to those waves in an Elliott wave sequence, often you see a triangle.
VP: And how reliable is this pattern – in other words, can you always expect it to resolve like you've just described?
JK: Well, every Elliott wave pattern fails sometimes; that's just the nature of forecasting the future. For example, last time I analyzed Cotton futures, I outlined a contracting triangle that finished at 44.99. The Elliott wave script then called for a thrust down in wave (5). But instead, prices exceeded the end of that triangle, and in so doing, invalidated that labeling. Cotton is the market I cover in tonight's Daily Futures Junctures (Dec. 17; online now. – Ed.), and I explain more what this negation means for the trend. It's a good example of how to handle such situations.
VP: Thanks for another valuable lesson, Jeffrey.
JK: My pleasure!