Wave 3 Rule
The Wave 3 rule states that Wave 3 can never be the shortest of the three impulse waves (waves 1, 3, and 5). This is an absolute rule with no exceptions. If your wave count shows Wave 3 as shorter than both Wave 1 and Wave 5, the count is wrong and must be revised. Notice the precise wording. Wave 3 does not have to be the longest wave. It just cannot be the shortest. Wave 1 can be longer than Wave 3 as long as Wave 5 is not also longer. In practice, Wave 3 is the longest impulse wave the vast majority of the time, often extending to 161.8% or more of Wave 1. This rule matters most when you are projecting Wave 5. If Wave 1 was large and Wave 3 is only slightly larger, Wave 5 is constrained. It cannot exceed a length that would make Wave 3 the shortest. This gives you a maximum price target for Wave 5, which is extremely useful for setting profit targets and identifying when a trend is nearing exhaustion. The rule also helps you eliminate incorrect wave counts during real-time analysis.
A stock completes Wave 1 covering $20 (from $100 to $120) and Wave 3 covering $25 (from $115 to $140). Wave 3 is longer than Wave 1, so far so good. Now Wave 4 corrects to $130. For Wave 5, the maximum length is constrained: it cannot exceed $25 (Wave 3's length) because that would make Wave 3 the shortest. So Wave 5 cannot go above $155 ($130 + $25). A trader uses $155 as a maximum target and sets take-profit at $150 to be safe. Price reaches $148 and reverses. The Wave 3 rule defined the ceiling.