UNIVERSITY OF LJUBLJANA SCHOOL OF ECONOMICS AND BUSINESS MASTER'S THESIS APPLYING ELLIOTT WAVE THEORY AND TESTING ITS EXPLANATORY POWER ON EUR/USD EXCHANGE RATE Ljubljana, June 2019 MIHA MOČAN AUTHORSHIP STATEMENT The undersigned Miha Močan, a student at the University of Ljubljana, School of Economics and Business, (hereafter: SEB LU), author of this written final work of studies with the title Applying Elliott Wave Theory and Testing Its Explanatory Power on EUR/USD, prepared under supervision of professor Aleš Berk Skok DECLARE 1. this written final work of studies to be based on the results of my own research; 2. the printed form of this written final work of studies to be identical to its electronic form; 3. the text of this written final work of studies to be language-edited and technically in adherence with the SEB LU’s Technical Guidelines for Written Works, which means that I cited and / or quoted works and opinions of other authors in this written final work of studies in accordance with the SEB LU’s Technical Guidelines for Written Works; 4. to be aware of the fact that plagiarism (in written or graphical form) is a criminal offence and can be prosecuted in accordance with the Criminal Code of the Republic of Slovenia; 5. to be aware of the consequences a proven plagiarism charge based on the this written final work could have for my status at the SEB LU in accordance with the relevant SEB LU Rules; 6. to have obtained all the necessary permits to use the data and works of other authors which are (in written or graphical form) referred to in this written final work of studies and to have clearly marked them; 7. to have acted in accordance with ethical principles during the preparation of this written final work of studies and to have, where necessary, obtained permission of the Ethics Committee; 8. my consent to use the electronic form of this written final work of studies for the detection of content similarity with other written works, using similarity detection software that is connected with the SEB LU Study Information System; 9. to transfer to the University of Ljubljana free of charge, non-exclusively, geographically and time-wise unlimited the right of saving this written final work of studies in the electronic form, the right of its reproduction, as well as the right of making this written final work of studies available to the public on the World Wide Web via the Repository of the University of Ljubljana; 10. my consent to publication of my personal data that are included in this written final work of studies and in this declaration, when this written final work of studies is published. 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June 1st, 2017 TABLE OF CONTENTS INTRODUCTION ......................................................................................................................... 1 1 ECONOMIC THEORIES AND MODELS OF EXCHANGE RATE DETERMINATION .......................................................................................................... 3 1.1 Economic Theories ...................................................................................................... 3 1.1.1 Purchasing Power Parity (PPP) ........................................................................ 4 1.1.2 Monetary Models ............................................................................................. 6 1.1.3 Interest Rate Parity ........................................................................................... 9 1.1.4 Balance of Payments Theory ......................................................................... 12 1.1.5 The Fisher Hypothesis ................................................................................... 13 1.1.6 Asset Market Model ....................................................................................... 18 1.2 Economic Models for Predicting FOREX Prices ................................................... 19 1.3 Economic Data ........................................................................................................... 20 1.3.1 Inflation .......................................................................................................... 20 1.3.2 Interest rate ..................................................................................................... 20 1.3.3 Country's Debt................................................................................................ 21 1.3.4 Unemployment Rate ...................................................................................... 21 1.3.5 Gross Domestic Product (GDP) ..................................................................... 22 1.3.6 Manufacturing Costs ...................................................................................... 22 1.3.7 Current and Capital Account .......................................................................... 22 1.3.8 Speculators ..................................................................................................... 22 1.3.9 Political Stability and Economic Prosperity .................................................. 24 1.3.10 Relative Strength of Other Currencies .......................................................... 24 1.3.11 Macroeconomic and Geopolitical Events ..................................................... 24 2 BASIC ELLIOTT WAVE CONCEPT .......................................................................... 24 2.1 The Five-Wave Pattern ............................................................................................. 25 2.2 Wave Characteristics ................................................................................................ 28 2.3 Impulsive Waves Rules, Extensions and Truncations ........................................... 32 2.3.1 Basic Rules ..................................................................................................... 32 2.3.2 Extensions ...................................................................................................... 33 2.3.3 Truncation ...................................................................................................... 34 i 3 ELLIOTT WAVE PATTERNS ..................................................................................... 35 3.1 Ending and Leading Diagonals ............................................................................... 35 3.2 Expanding Diagonals ................................................................................................ 36 3.3 Types of Correction Patterns................................................................................... 38 3.3.1 Zigzag Corrections ........................................................................................ 38 3.3.2 Flat corrections .............................................................................................. 40 3.3.3 Triangle Corrections ...................................................................................... 42 3.3.4 Complex Corrections ..................................................................................... 44 3.4 Alternation ................................................................................................................ 46 3.5 Price Movement Following an Extended Fifth Wave ............................................ 47 3.6 Channelling ............................................................................................................... 47 3.7 Volume ....................................................................................................................... 49 4 APPLICATION OF ELLIOTT WAVE THEORY ON CURRENCY PAIR EUR/USD ......................................................................................................................... 49 4.1 Data Description ....................................................................................................... 51 4.1.1 Gathered and Analyzed Economic Data for USD ......................................... 51 4.1.2 Gathered and Analyzed Economic Data for EUR ......................................... 51 4.1.3 Descriptions of High and Medium Impact Economical Data and Its Importance ..................................................................................................... 52 4.2 Statistical Results of My Research .......................................................................... 58 4.3 Summarizing Analytical Results ............................................................................. 60 CONCLUSION ........................................................................................................................... 62 REFERENCE LIST .................................................................................................................... 67 APPENDICES ............................................................................................................................... 1 LIST OF FIGURES Figure 1: The Fisher Effect ........................................................................................................... 15 Figure 2: Basic five-wave pattern ................................................................................................. 25 Figure 3: Basic Elliott wave pattern .............................................................................................. 26 Figure 4: Elliott wave super-cycle ................................................................................................ 28 Figure 5: Trend