In the early 1900s, a young orphan named Pete flees his abusive hillbilly foster family, the Gogans, with help from a huge dragon called Elliott who can make himself invisible. Pete and Elliott visit a small fishing town called Passamaquoddy, where the unseen Elliott's clumsiness causes Pete to be labeled a source of ill luck. Lampie, the drunken old lighthouse keeper, stumbles out of a tavern and encounters Pete. Elliott makes himself visible, and a terrified Lampie runs into the saloon to warn the townsfolk. In a seaside cave, Pete scolds Elliott for causing trouble. Just as they make up, Lampie's daughter Nora appears. She says that due to the ongoing tides from the sea, it's unsafe for Pete to stay. She offers him food and shelter at the lighthouse, which Pete accepts. Pete tells Nora of the abuse he suffers at the hands of the Gogans and, as Nora offers to let him stay the night at the lighthouse, they strike up a friendship. Pete learns the story of Nora's fiancÃ©, Paul, whose ship was reported lost at sea the previous year. Pete promises to ask Elliott about Paul, and Nora accepts, believing Elliott to be an imaginary friend.
The next morning, Dr. Terminus, a medicine showman, and his shill, Hoagy, arrive and win over the gullible townspeople, who are initially angered by their return. The local fishermen complain about the scarcity of fish and believe Pete is the cause. Nora tells them the fishing grounds shift and that Pete should be welcomed in town. Nora takes him to school, where he is punished unfairly by Miss Taylor, the strict teacher, as a result of Elliott's antics. An enraged Elliott smashes into the schoolhouse.
Dr. Terminus, convinced of Elliot's existence and knowing that dragon anatomy has medicinal uses, makes Pete an offer for Elliott, which he refuses. Believing he needs to stop running from the Gogans, Nora and Lampie offer to let Pete live with them permanently, which Pete accepts. When the Gogans arrive in town and demand Pete back, Nora refuses to hand him over and, as the Gogans attempt to chase them in a small boat, Elliot "torpedoes" their boat, saving Pete.
Dr. Terminus teams up with the Gogans to capture both Pete and Elliott. Terminus also convinces the superstitious locals that helping him capture the dragon will solve their problems. That evening, a storm begins to blow.
At sea, a sailing ship is approaching Passamaquoddy with Paul on board. Dr. Terminus lures Pete to the boathouse, while Hoagy does the same to Elliott. Once there, the invisible Elliott discovers Pete but is caught in a net. He frees himself and saves Pete, then confronts the Gogans, who flee in their wagon. Lena Gogan waves her Bill of Sale at Elliott, who torches it.
Elliott then saves the Mayor, Miss Taylor, the sheriff, and other town council from a falling utility pole, revealing himself to the grateful townsfolk. Back at the lighthouse, the lamp has been extinguished by a storm driven rogue wave. Elliott returns and tries to light it with his own fire. As he does, Nora sees that he is real. The light is ignited, and the ship is saved.
The next morning, the townsfolk praise Elliott for his help, and Nora reunites with Paul, who was the sole survivor of a shipwreck at Cape Hatteras and suffered amnesia. Now that Pete has a loving family, Elliott tells him that he must move on to help another kid in trouble, and the two part.
Who saves Pete?
Elliot