According to Wyckoff, the market can be understood and anticipated through detailed analysis of supply and demand, which can be ascertained from studying price action, volume and time. As a broker, he was in a position to observe the activities of highly successful individuals and groups who dominated specific issues, and was able to decipher, through the use of what he called vertical (bar) and figure (point-and-figure) charts, the future intentions of those large interests. An idealized schematic of how he conceptualized the large interests' preparation for and execution of bull and bear markets is depicted in the figure below. The time to enter long orders is towards the end of the preparation for a price markup or bull market (accumulation of large lines of stock), while the time to initiate short positions is at the end of the preparation for price markdown.
Wyckoff's chart-based methodology rests on three fundamental “laws,” which affect many aspects of analysis, including: determining the market's and individual stocks' current and potential future directional bias, selecting the best stocks to trade long or short, identifying the readiness of a stock to leave a trading range, and projecting price targets in a trend from a stock’s behavior in a trading range. These laws inform the analysis of every chart and the selection of every stock to trade.
1. The law of supply and demand determines the price direction. This principle is central to Wyckoff's method of trading and investing. When demand is greater than supply, prices rise, and when supply is greater than demand, prices fall. The trader/analyst can study the balance between supply and demand by comparing price and volume bars over time. This law is deceptively simple, but learning to accurately evaluate supply and demand on bar charts and to understand the implications of supply and demand patterns takes considerable practice.
2. The law of cause and effect helps the trader and investor set price objectives by gauging the potential extent of a trend emerging from a trading range. Wyckoff's “cause” can be measured by the horizontal point count in a point-and-figure chart, while the “effect” is the distance price moves corresponding to the point count. This law's operation can be seen as the force of accumulation or distribution within a trading range—and how this force works itself out in a subsequent trend or movement up or down. Point-and-figure chart counts are used to measure a cause and to project the extent of its effect. (See “Point and Figure Count Guide” below for an illustration of this law.)
3. The law of effort versus result provides an early warning of a possible change in trend in the near future. Divergences between volume and price often signal a change in the direction of a price trend. For example, when there are several high-volume (large effort) but narrow-range price bars after a substantial rally, with the price failing to make a new high (little or no result), this suggests that big interests are unloading shares in anticipation of a change in trend.
Wyckoff's chart-based methodology rests on three fundamental “laws,” which affect many aspects of analysis, including: determining the market's and individual stocks' current and potential future directional bias, selecting the best stocks to trade long or short, identifying the readiness of a stock to leave a trading range, and projecting price targets in a trend from a stock’s behavior in a trading range. These laws inform the analysis of every chart and the selection of every stock to trade.
1. The law of supply and demand determines the price direction. This principle is central to Wyckoff's method of trading and investing. When demand is greater than supply, prices rise, and when supply is greater than demand, prices fall. The trader/analyst can study the balance between supply and demand by comparing price and volume bars over time. This law is deceptively simple, but learning to accurately evaluate supply and demand on bar charts and to understand the implications of supply and demand patterns takes considerable practice.
2. The law of cause and effect helps the trader and investor set price objectives by gauging the potential extent of a trend emerging from a trading range. Wyckoff's “cause” can be measured by the horizontal point count in a point-and-figure chart, while the “effect” is the distance price moves corresponding to the point count. This law's operation can be seen as the force of accumulation or distribution within a trading range—and how this force works itself out in a subsequent trend or movement up or down. Point-and-figure chart counts are used to measure a cause and to project the extent of its effect. (See “Point and Figure Count Guide” below for an illustration of this law.)
3. The law of effort versus result provides an early warning of a possible change in trend in the near future. Divergences between volume and price often signal a change in the direction of a price trend. For example, when there are several high-volume (large effort) but narrow-range price bars after a substantial rally, with the price failing to make a new high (little or no result), this suggests that big interests are unloading shares in anticipation of a change in trend.