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Value Wave Investing

11 Oct 2020 ‚óŹ 01:01 PM


Stock picking and the Elliott Wave pattern - Methodology - 

This is the most interesting chart in the book Elliott Wave Principle because it allowed me to understand how Elliott waves interact with the Business cycle more closely. The chart was meant to explain the psychology of Elliott waves during the progression of the Waves over a long-term time horizon. At cycle degree or higher. But on deeper thought, it's a signal of how stocks and the market behave during stages of the cycle. The value phase is when a stock is almost back to its intrinsic worth and nobody cares but Elliott wave wise we are able to spot the perfect first 5 waves up over several months or a year that signals the possible long-term trend reversal on cards for the business. Prices continue down in wave 2 only because market sentiment is poor or that the market has not yet figured out the story behind a possible 3rd wave. So apart from the value argument, you may even come up with reasons to avoid the stock in wave 2 down, that is how sentiment is just before wave 3 up kicks in. The 3rd wave is when the story becomes real and accepted by the investment and research community. The 3rd wave is where the outsized gains also lie.

[Also See where I combine Economic cycles and Elliott waves for the Indian economy]

The Personality of Stock Market Waves

In short, it is true that the Fundamentals and Technicals of a stock have to come together however this does not need what most analysts are prone to doing. Meeting the company management and figuring out what is going on from the perspective of next quarter's earnings. During the Value phase sometimes the business is also unaware of how things will work out. The charts only suggest that things cannot get worse. Yes studying the business and its actions are necessary to see that they are not destroying the balance sheet [so read the cash flow statement closely in the annual report], and then determine if the sector as a whole can come into play based on the sector Elliott Wave position. Figure out if genuine triggers exist for a bigger story that can move the stock from Value to Growth. Usually, large stocks with a sizeable business go through business cycles and therefore will reflect the above psychology perfectly. The difficulty is usually with mid and small caps that are trying to break out from a small to a large business in size. This requires introspection and risk-taking on our part. But the EW structure and the Value of the stock usually solves most of the problem of risk. The existence of the right wave structure means that something is going on and Value limits the downside risk, for now, giving you time to give to the business to spring a surprise. This is how investing is truly done for the long term in my understanding. This has worked for me for many years. Almost mostly ensuring that there is nothing to lose. And sometimes finding those few multi-baggers as well.

This video was taken from the free Club EWI video series: Learn the Why, What, and How of Elliott Wave Analysis. This 3-video series is a great way to get started with the Wave Principle. You can get these videos free with a Club EWI Membership.

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Already a Club EWI member? Access the video series Learn the Why, What and How of Elliott Wave Analysis here.

The Value Wave Stocks

The 'Value Wave Stocks is the identification of a stock based on the above model that is likely to progress upwards along the path of the 5 wave impulse pattern over a 2-5 year time horizon if not longer. With the market itself today in an advanced bull phase various stocks are at different degrees of the wave structure shown above. What therefore is critical is finding new ideas that are at an early stage within the pattern and attempting to participate in the move. The difficult part is that most investors [or should I say traders] do not have the patience or time horizon required to get the best out of unfolding patterns. Since time is a less exact study of the subject of technical analysis there are times when the upward moves have unfolded very fast and times when they have taken people's patience before rewarding them. All the same, if the identification is right, the move unfolds sooner than later. Using this model it's possible to plot the correct Elliott wave structure for a stock and confirm it with the current state of the business based on published data like the Audited annual report and quarterly results and news about the business. Because growth is a 3rd phase phenomenon it requires no research but the patience of a long-term investor.

The diagram below shows how Fundamental Research rates companies at different stages of the entire cycle. I try to find stocks in waves 1-2-early stages of 3. Then stay the course as long as possible. By the time a stock or sector hits wave 5, it is often classified as a Defensive stock/sector because of its below normal or near index rate of return. 


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