Market Trends: Richard Wyckoff’s Tips for Studying Market Trends for Picking Super Stocks

Legendary technical analyst Richard Wyckoff believes that stock prices are determined solely by supply and demand and have little to do with rumors, stock advice, news, financial reports, and a host of other sources of information.

According to Wyckoff, the detailed analysis of supply and demand can be done by studying the movement of price, volume and time.

Richard Demille Wyckoff was a pioneer in the study of the stock market using technical analysis in the early 20th century, and is considered one of the five “gurus” of technical analysis, along with Dow, Gann, Elliott, and Merrill.

When he was 15, he took a job as a stock runner at a New York brokerage. Later, he established his own company and also founded, written and edited Wall Street Journal for nearly two decades.

He devoted his life to guiding and guiding young investors on the trading rules they must follow in order to succeed in the stock market which he called “The Real Rules of the Game”. He also founded a school that later became the Stock Market Institute.

His time-tested ideas are as valid today as they were when he first outlined them in How I Trade and Invest in Stocks and Bonds.

Wyckoff took a five-step approach to the market where he placed great emphasis on stock selection and trade entry. Let’s take a look at each step of his process.

1. Determining the current situation and possible future direction of the market.
Wyckoff said investors need to assess when to enter the market and whether they should take long or short positions in this current market scenario.

He said that this can be done by knowing if the market is consolidating or trending and analyzing which direction the market is likely to take in the near future.

He said investors can use all of the bar charts and dot and figure charts of major market indicators to perform this trend analysis.

2. Select the arrows corresponding to the trend. In an uptrend, select the strongest stocks from the market

Wyckoff said investors should look for stocks that show a larger percentage increase than the market during small ups and downs during a recession.

In a downtrend, he said, investors should do the opposite and pick stocks that are weaker than the market.

“If you’re not sure about a particular issue, drop it and move on to the next issue,” he said.

According to Wyckoff, investors can use individual stocks’ bar charts to compare with those of a more relevant market index to perform the above analysis.

3. Select stocks with a ’cause’ that equals or exceeds the minimum target

Wyckoff is best known for setting price targets using point and figure (P&F) forecasts for both long and short trades.

According to Wyckoff’s Basic Law of Cause and Effect, the horizontal P&F number within the trading range represents the cause, and the subsequent price action represents the effect.

Wyckoff said that if investors plan to take long positions, they should choose stocks that are subject to accumulation or re-accumulation and have established sufficient reason to achieve their goal.

He said investors can use dot-and-shape charts for individual stocks to achieve this goal.

4. Determine the readiness of the stock to move
Wyckoff said investors should do some technical testing of buying or selling to see how well the stock is ready to move.

Wyckoff said that investors should examine the price and size of their shares and the behavior of the market as a whole and make sure that their conclusions are correct and that the stock is a good choice before taking a position.

“For example, in a trading range after a prolonged rally, does the evidence from the nine sell tests indicate that a significant supply has entered the market and that a short position may be warranted? Or in an apparent cumulative trading range, does the nine buy tests indicate that the supply has been It was successfully absorbed, as evidenced by a lower volume spring and a lower volume test than that spring?”

According to Wyckoff, investors should use bar charts, point charts, and figures for individual stocks to perform this analysis.

5. Determine the time of your commitment to convert the stock market index
Wyckoff said that investors should buy the stocks of their choice if their analysis shows that the market will reverse and spread, and similarly they should sell stocks if their analysis indicates that the market will go down.

According to Wyckoff, investors should use bar, point, and shape charts to perform this analysis.

Wyckoff’s “Composite Man”
Wyckoff proposed a heuristic tool for understanding price movements in individual stocks and the market, which he called the “composite man”.

“All the fluctuations in the market and in all the different stocks must be studied as if they were the result of the operations of one man. Let us call him the Composite Man, who, in theory, sits behind the scenes and manipulates the stocks unfavorably for you if you do not understand the game while playing it; and for your great profit if you understand that “.

Wyckoff advised traders to try to play the market game as the Composite Man did.

Based on his years of observations of market activities, Wyckoff concluded that:

1. The Composite Man plans, executes and closes his deals carefully.
2. The Composite Man attracts traders to buy shares in which he has already accumulated a large number of shares by conducting several transactions involving a large number of shares, in effect advertising his shares by creating the appearance of a “wide market”.
3. Investors should study the charts of individual stocks for the purpose of judging the behavior of the stock and the motives of these large operators who control it.
4. Through study and practice, investors can gain the ability to interpret the motivations behind the action depicted in the chart.

Wyckoff believes that if investors can understand the market behavior of the Composite Man, they can identify many trading and investing opportunities early enough to take advantage of them.

Three Wyckoff Laws
Wyckoff used a chart-based methodology to conduct his investment analysis which was based on three basic “laws”.

These laws helped determine the current and future directional bias of the market and stocks. Also, these laws can be used to choose the best stocks to trade, determine the willingness of the stock to leave a trading range and predict price targets in a direction from the stock’s behavior in the trading range.

1. The law of supply and demand determines the direction of price.
According to Wyckoff, when demand is greater than supply, prices rise, and when supply is greater than demand, prices fall, thus investors should study the balance between supply and demand by comparing price and volume bars over time.

According to Wyckoff, this law appears simple, but learning to accurately assess supply and demand on bar graphs, as well as understanding the implications of supply and demand patterns, requires significant practice.

2. The law of cause and effect helps the trader to set price targets by measuring the likely extent of a trend emerging from the trading range.
According to Wyckoff, ’cause’ can be measured by the number of horizontal points in a chart of points and figure, while ‘effect’ is price movement over a distance corresponding to the number of points.

The process of this law can be viewed as the force of accumulation within a circulation range, as well as how this force acts in a subsequent trend or upward or downward movement.

3. The law of effort versus outcome provides early warning of a possible change in trend in the near future.
Wyckoff said that differences between volume and price often indicate a change in the direction of price direction.

Hence, when there are many high-volume but narrow-banded price bars after a big rally, with the price failing to reach a new high, this indicates that large interests are emptying stocks in anticipation of a change in trend.

What is the Wyckoff method used for?
Traders use the Wyckoff method to identify market trends, choose investments, and when to place trades.

It can help them identify the times when the big players are accumulating or allocating positions in stocks. It can also help investors find deals with high profit potential.

The advantage of taking this method is that it is a straightforward analytical approach that helps investors enter and exit the market without emotion that can influence judgment.

What are the four phases of the Wyckoff cycle?

The four phases of the Wyckoff cycle are: accumulation, coding, distribution, and markdown. They represent trading behavior and price action. Once the final write-off phase of the Wyckoff cycle is completed, a new accumulation phase begins a new cycle.

Most professional traders use the Wyckoff methodology, but unfortunately, his method is still not widely spread and is not widely followed among retail traders or new traders.

Although Wyckoff’s teachings were thought to make investors aware of the “real rules of the game”, his methods needed intelligent practice and were well worth the effort of novice and young traders for long-term success.

(Disclaimer: This article is based on Richard Wyckoff’s book How I Trade and Invest in Stocks and Bonds)