It is a part of the Elliot Wave Theory.
Impulse is a strong price move in direction of the prevalent trend and correction is a minor counter trend move.
Impulse and correction is formed due to the mass psychology in the market and it validates the principle that the price moves in phases.
What are impulse and correction?
Impulse and Correction are phases in which the price moves. The large price move in direction of the trend is impulse and correction is the minor counter trend price move. These phases can tell you a lot about the dominance of buyers and sellers in the market.
It is a price action method and is also a part of the renowned Elliott Wave Theory which was developed by Ralph Nelson Elliott in the 20th century.
The Elliott wave theory was formulated in order to develop a system to study the price movements that take place in the various assets that are traded.
The basic principle of the theory is that even though the price moves in a completely random manner, there is always a pattern in the price movement.
The Elliott wave theory stated that the price of an asset moves in certain phases. Price does not always move in one direction. If one observes the price movements, one would notice that price moves in waves.
These waves are nothing but price movement from one point to another. The impulse and correction are the waves, which are defined in the Elliott wave theory.
Whenever a price moves in one direction with complete conviction, it is known as an impulsive movement or an impulsive wave of price movement.
Impulsive waves move in the direction of the larger term trend. The price movement is strong without any opposite bias, price candlesticks formed are often of the same nature i.e. bullish or bearish according to the trend, and since conviction or strength in the trend is high, these are often candlesticks with wide bodies.
What goes up will come down. As the Elliott wave theory mentioned, price does not always move in one direction, from time to time there will be a movement in the price in the opposite direction. These are known as corrective movements or corrective waves.
Corrective waves are a temporary movement of the price of the asset. These are in the opposite direction of the impulsive wave. Corrective waves are also known as pullbacks.
For instance, let us consider that GBPUSD is trading at 1.2000 at the moment. The price trended all the way till 1.3000. This is an impulsive wave as the price has experienced substantial movement in one direction.
After reaching the 1.3000 price level, it falls down till 1.2750. This is a pullback in the price or the correction phase. Once the price starts trending again in the upward direction, a new impulsive wave is in the formation.
This is the reason for the positive response towards the Elliott wave theory. This theory allows traders to label each leg of the price movement and to understand the prevailing conditions.
Traders then have an edge over other market participants that they can make complete use of in order to capitalize on the price movement that will take place in the coming trading sessions.
Why do impulse and correction happen?
On observation of a chart of any currency pair, price movement in the form of impulsive waves and corrective waves will always be found.
This theory will be found to be in action on charts of all currency pairs, irrespective of which time frame of price movement is being observed.
So we have the theory, that price moves in waves, there is a dominant wave, the impulsive wave that is in the direction of the larger term trend and then there is a minor price wave, which moves in the opposite direction of the impulsive wave.
It is also essential to understand why this theory works every time. The simple answer is because of the psychology of the market participants.
It is said that the markets trend only 30% of the time. These trends can be initiated for any reason. Once a trend has initiated, other traders join in the trend and ride the price movement.
This is the impulsive wave that I have already discussed.
Since these traders are not trend initiators but are just spotting trends and following them, they do not know when or where on the chart will the trend end.
Once the price has a trend, these traders will be content with the profits that they have managed to pocket and will exit trade fearing that the price will not move further.
This selling off during trends or impulsive waves results in price facing a pullback or a corrective wave.
The weak hands that ride trends will be shaken off during the corrective phase that the price undergoes, hence a minor price movement in the opposite direction.
The strong hands that were riding the trend are still in the trade are not shaken off and are still in the trade.
This corrective wave gives an opportunity o those traders that missed out on the earlier impulsive move to enter into the trade and ride the trend.
At price corrections, the strong hands look to get further more invested in the trade. This added interest leads to price gaining momentum and hence we see another impulsive wave in the direction of the larger term trend.
How to trade impulse and correction?
The phases of impulse and correction are formed due to the psychology of the participants that are present in the market.
The Elliott wave theory hence is proved to be correct that price moves in phases and some patterns.
Traders that are able to spot these impulse and correction waves unlock a lucrative source of information that can be used to capitalize on the price movements.
We cannot initiate trends and till we spot that a trend has already developed it is not prudent to straight away enter as there is no assurance that the trend will continue from that particular point.
In such cases, you should wait for a correction to take place in the price movement. This indicates that the trend has slowed down a bit.
It should be noted that it is compulsory that after every impulsive move, a corrective move will take place. You should not jump into trades on a price move that initially seems like a pullback.
What might seem like a pullback in the beginning, can go on to develop into a complete price reversal in the opposite direction.
Some traders wait even further to get a confirmation that the price movement in the opposite direction was just a correction and not a complete reversal.
Once the price begins its movement in the direction of the impulsive wave, you should join the party and ride the potential impulsive wave that is developing.
Do you trade impulse and correction?
I hope that after reading this blog post you have a better understanding of this concept of impulse and correction which is often the foundation of several trading strategies.
Do let me know if you trade impulse and correction and whether this blog post was of any help.
Share this blog post with traders you know and help them elevate their trading by using this concept in their own trading.
Feel free to reach out through the comments section for any questions or anything in general and I will get back to it at the earliest.