In a financial market cycle, there are four major phases:
- Accumulation phase, where the price of a cryptocurrency tries to bottom after a prolonged downtrend and enters a base-building process. In this stage, new investors replace the old ones, which in return replaces fear and depression with hope and optimism. Price generally moves inside a horizontal range in the accumulation phase, which is a great profit opportunity for short-term traders to buy at support and sell at resistance.
- Uptrend, in which market participants buy aggressively once the price of the cryptocurrency leaves the accumulation zone to the upside. In the early stages of an uptrend, there are usually a small group of investors buying the asset, who is joined by a much larger group of weak-handed retail participants in the later stages. The early stage of an uptrend has smooth and linear price increases with consistent higher highs and higher lows but the price action gets ferocious in the late stages with many bull traps and swing failures.
- Market top, where an uptrend is faced with strong resistance, and the price starts to make lower highs instead of higher highs, as time passes. Strong hands that joined the market in the early stages of an uptrend take profits in this phase, due to which buying volume starts to decline significantly.
- Downtrend, in which there are more sellers than buyers. This drops the price of the cryptocurrency to depressed levels unanticipated by long-term holders. A downtrend may take much longer than expected. A downtrend begins with high price volatility but ends with low volatility because apathy and disinterest dominate the late stages of a downtrend.
Stages in an Uptrend
An uptrend, or alternatively a bull market, most usually starts at the end of an accumulation period. As the famous investor Sir John Templeton puts it, “uptrends are born on PESSIMISM (which is the accumulation phase), grow on SKEPTICISM, mature on OPTIMISM, and die on EUPHORIA”. In that sense, we can suggest there are three major stages in an uptrend (excluding the accumulation stage), which is also hypothesized by the Elliott Wave Theory.
The Elliott Wave Theory is the benchmark technical analysis tool used by financial traders to identify market cycles and forecast different market trends. According to the Elliott Wave Theory, every uptrend consists of five major stages with three impulse waves to the upside and two corrective waves to the downside. Prices climb during waves 1, 3, and 5 of each cycle, while it drops/corrects during waves 2 and 4.
As an example, the price of Bitcoin followed a perfect Elliott five-wave sequence during its 2015-2017 uptrend.
As you can see in the above chart, following the 2014 bear market, Bitcoin started its ascent in January 2015 and climbed from $180 per coin up to $300 by July 2015, which constituted the first wave. In the second wave, it lost the majority of gains in wave one and retraced to $200.
Then, in the third wave, which was the largest wave in terms of duration and magnitude, the price managed to make an all-time high at $3,000. The five-wave sequence was completed with the fifth wave which topped at $20,000 in December 2017.
Let’s review in detail below the different stages of an uptrend using Elliott waves.
Wave one is inconspicuous at its inception. The majority of this first wave usually advances inside the horizontal range of the accumulation phase because wave one starts when the fundamental news about a cryptocurrency is universally negative, which is a consequence of the long-depressed prices. Market participants are still suspicious and fearful in this stage because the price failed to break out of the accumulation phase for months or maybe years.
Due to this, small rallies to the upside usually get sold heavily because there is yet no solid faith in the market for a possible uptrend. However, it is important to note that volume starts to gradually increase during the first wave, which suggests that the accumulation phase is nearing an end.
In wave one, there are a lot of short-sellers, who are responsible for those heavy pullbacks after small price surges. This behavior is natural since the majority of the market believes that they are still in a downtrend and expect another leg down right after each price rally.
Second waves in an uptrend are corrective waves where the price retraces. Since the first impulse wave was built on skepticism, second waves typically take away the majority of the advancement from wave one. As wave two progresses, investors are thoroughly convinced that the bear market is going to stay.
However, what they miss to see is that the price of the cryptocurrency is still higher than the opening price of wave one. According to the Elliott wave theory, wave two cannot retrace beyond the starting price of wave one. If the price falls any further, then wave two would get violated, which suggests that the accumulation phase is likely to be continued with a downtrend, instead of an uptrend.
The current uptrend of Bitcoin which started in December 2018 has also been following a perfect Elliott-wave sequence so far. The price of Bitcoin lost the majority of gains from wave one, retracing from $14,000 in June 2019 to $3,800 in March 2020 (see the below chart).
Volume is critical to watch during wave two. If price retraces with declining volume throughout this period, it could suggest that a higher low will be achieved by the end of wave two compared to that of wave one.
Divergences in momentum indicators throughout wave two can also indicate a continuation in the uptrend with a new impulse wave (wave three). For example, if the relative strength index (RSI) or the moving average convergence divergence (MACD) makes higher lows as the price retraces, this is a positive sign that the second wave will hold and eventually start the third impulse wave.
Third waves are usually the largest of impulse waves in a five-wave sequence, during which the price increases the most. There is a constant and linear increase in the price of the cryptocurrency and retracements get smaller as the market is entirely convinced of an uptrend in this stage. In that sense, third waves are the most comfortable stage to hold your positions.
Positive news and developments about the specific cryptocurrency get increasingly circulated in the media and social media interactions skyrocket. Due to this, third waves typically generate the greatest buying volume, which is the reason that they are usually the largest, most extended waves in an entire growth cycle. Virtually all cryptocurrencies participate in third waves.
Bitcoin’s surging from $3,800 following the Covid crash in March 2020 to $65,000 by April 2021 could be counted as wave three of the ongoing uptrend. During this one-year period, increasingly positive fundamentals about Bitcoin entered the picture, and buying activity grew tremendously compared to the previous waves.
Since wave three is usually the strongest wave in a five-wave Elliott sequence, it often embeds other, albeit smaller, five-wave sequences inside the wave, like the Russian matryoshka dolls. This suggests that third waves also start with a bit of skepticism following the retracement in wave two, which would make a sub-wave one, and then advance through the same Elliott sequence of the grand cycle.
This also suggests that there can be an infinite number of sub-wave cycles within any grand cycle. Wave cycles differentiate in terms of their time frames with the largest one being the grand supercycle, and then the supercycle, then the intermediate cycle, etc. The grand supercycle could take a decade, the supercycle could take a few years, and smaller wave degrees could take as short as one hour or less.
It makes a big difference to identify the third wave on a high time frame because wave three is typically when you make your life-changing fortunes.
Wave four takes place when too much retail interest joins the market at the end of wave three. The general purpose of this corrective phase is to scare away those latecomers and weak hands as the early and large investors start taking profits at this stage.
Fourth waves typically retrace less than the second waves because the faith in the market is significantly higher after a long bull market, whereas there was a lot of fear and uncertainty during wave two.
Investors and traders are inclined to buy any dips that happen during this stage. Due to this, there can be large bounces throughout the advancement of wave four, which could take the price as high, or sometimes even higher than the top price in wave three.
Wave four is also known to last significantly longer than wave two. Any lagging cryptocurrencies build their tops during this wave and then they start to decline with the wave. There are many bull traps, failed rallies, and swing failures in the fourth wave, which indicate weaknesses forming in the market as we approach the end of a growth cycle.
Although wave three is generally the largest wave, it is also possible for the fifth wave to become the largest wave in a growth cycle. This can happen especially in more speculative assets like cryptocurrencies where everything moves on sudden and short-lived hype.
In wave five, there are even more positive news and developments dominating the market but unfortunately, this is also the stage where too many average investors flock into the market with the fear of missing out. Due to this, wave five constitutes a rather dangerous stage in the larger uptrend. There is still a lot of money to be made in wave five but the tides may turn against you at any moment, which would instead create the largest losses.
A big sign of weakness forming in wave five is the volume. Trading volumes are usually lower in wave five than in wave three. Another important sign of weakness is that momentum indicators like the RSI, stochastic RSI, and MACD start to have big divergences in larger time frames like three-daily, weekly, or monthly. This means prices keep reaching new all-time highs every day while the indicators are getting lower on those high timeframes.
However, these weaknesses do not change the fact that the price keeps exploding to the upside in wave five. Everybody in the crypto market is there to make money so investors and traders should not be discouraged from participating in wave five.
In financial markets, the highest returns are made at the highest risk levels (i.e. weaknesses) so with cryptocurrency, this last uptrend stage could very well be the point where you make the highest and life-changing profits. As the famous economist, John Keynes once said, “the markets can remain irrational longer than you can remain solvent”, you should be cautious and flexible in your judgments and never try to time the markets.
You should also proceed with caution during this last stage of the bull market by taking profits as the price makes new all-time highs. Historically, the fifth waves are known to almost always retrace their entire advancement during the downtrend that comes after.
Some Closing Thoughts
An uptrend generally consists of five different stages – three impulse moves to the upside and two corrective moves to the downside. The length and duration of each move depend on the power of the overall uptrend, which is determined by the level of market hype and demand.
In the above five-wave Elliott sequence, we discussed a generic high time-frame uptrend. For example, Bitcoin’s move from its 2015 low of $200 to $20,000 by December 2017 is a perfect five-wave grand cycle to the upside as well as its surge from $3,000 in December 2018 to $65,000 in May 2021.
Depending on what type of trader you are, be it short-term or long-term, you can adapt the different stages of an uptrend to your timeframe of interest – could be weekly, daily, or even hourly in case you are a day trader.