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Richard Wyckoff method: a detailed review with description of use
Wyckoff Method in Tech Analysis
Cryptocurrency
12.11.2021
Updated 11.03.2022
8:13

The use of trading methods is a key to successful and profitable trading even for a person who still lacks sufficient experience. Pure knowledge about appropriate methods is enough to compensate for a significant level of the unprofessionalism of a newbie. In this article, we will tell you about one of such tools – the Richard Wyckoff method.

The Wyckoff method: history and initial description 

The Wyckoff method is the development of a specialist with the same name Richard Wyckoff, which saw the light in the 30s of the last century. It includes a number of principles and unique strategies that were being created specifically for the activity of traders and investors.

Richard Wyckoff is a person who dedicated most of his life and professional career to study the market, its tendencies, and the behavior of participants. It has led to the fact his developments are still used by millions of followers worldwide.

Many even claim that the specialist is one of the primary creators of modern technical analysis. It is also noteworthy that developments of Wyckoff were initially created for trading stocks only, but now they are used for all types of financial markets (including the most modern one – the cryptocurrency one).

It is not fair to say that Wyckoff is a single and the key discoverer of his theories. He used developments of other successful traders of his time (for example, Jesse Livermore) in his works. It has led to his personality joined the ranks of such recognized experts like Charles Dow and Ralph Elliott.

The research of this specialist, as well as the implementation of its provisions in practice, triggered the formation of numerous theories and methods for trading. In this article, we will describe his main legacy, which consists of:

Three laws of Wyckoff

This development is what was considered not the most obvious thing in his time, but now many find it logical and take it for granted. But this specialist namely was the pioneer who laid the foundation for logic in the markets and trading.

The law of supply and demand 

The essence of the law is that any asset grows in its cost when the demand indicator becomes more significant than the supply indicator.

Consequently, the decline in cost occurs when there is an opposite tendency.

This principle is considered to be one of the main ones in any financial market and is demonstrated (in its simplified way) in the form of such formulae:

  1. Demand > supply = growth of the price.
  2. Demand < supply = drop of price.
  3. Demand = supply = stability of the price tag without significant fluctuations (low volatility).

These tendencies are explained by the way that in a situation when the demand significantly exceeds the supply, the number of buyers is higher than the number of sellers. And it inevitably results in competition and growth of cost. But if the number of sellers is way higher, they also start competing with each other to get fewer buyers for themselves. That is when a forced reduction of cost occurs.

Investors taking the Wyckoff method namely try to predict the price movement by the volume of bars.

The law of cause and effect

It means that constant differences between the supply and demand indicators are far from random phenomena: they have a cause, and they can be predicted. He claims that long before the growth or drop of the price, it is possible to lock in:

The law of effort and results’ link

The third law tells that any price movements within the market are always a consequence of common actions of all its participants initially marked in the volume of trading operations:

The ‘Composite man’ theory

Along with the above laws, Wyckoff formed a specific idea about the so-called ‘Composite man’ – a single hypothetical subject that controls the market. In his opinion, it is efficient to study the market based on an assumption that it is controlled by a single subject. Thus, it becomes easier to predict and follow the trends.

The composite man essentially unites the most important players of the market, who are its market makers. As a rule, these are wealthy people and institutional investors-organizations. Their activity not only affects pricing directions more but is also easier to predict (in contrast to minor participants).

The practice shows that most frequently, the ‘Composite man’ acts the opposite of what other participants of market relations do. It locks profits at the expense of the rest having losses. But thanks to this fact, it is easier to predict it, since it always follows the scheme ‘buy cheaper / sell more expensive within little time’.

The main phases in Wyckoff’s cycle

The term ‘Composite man’ is essential in understanding the market cycle described by Wyckoff’s method. It unites four main phases that any interesting to the market asset goes through.

Accumulation phase

Large trader/investor is interested to begin accumulating certain assets before other participants of the market start to understand they need to accumulate it too. In this period, the price shows side movement that large investors benefit most from and can use for further actions and implementation of the strategy.

The accumulation phase is characterized by the fact that purchases take place gradually, by small deals that are difficult to notice. All of that is made to prolong the analogical behavior of other investors for as long as possible and not to let them understand where the situation goes.

Impulse phase (uprising trend)

The moment a large and institutional investor receives a sufficient volume of the assets received as a result of his trader activity he starts to provoke the price growth. The sales deplete, the deficit appears, new investors are attracted by growing numbers, and the demand is rising.

It is essential to note that additional (repeat) phases of accumulation may be initiated during the impulse phase. Large and institutional investors provoke a short stop of the powerful tendency, purchase again, and wait for the further uprising movement.

Against this background, a powerful movement up is fixed, inexperienced or simply emotional traders follow recommendations to enter the market and continue buying the asset. As a result, excitement affects more and more people, the demand continues rising, and the supply still remains at a lower level compared to it.

Distribution phase 

During this phase, large and institutional investors start to lock in profits by selling the accumulated assets to those who still continue to enter the market at its late stage.

This phase is characterized by the strongest fixation of price approximately at the same level. It will be stable until the demand is met at almost 100% in the background of the fall of the increase of a number of new investors of the late stage.

Mark down/correction phase

That is the stage when the market starts to experience a downturn. The large and institutional investor has sold a part of his assets or all of them at a peak price and is interested in the price tag remaining low. He also begins to push the asset down. Traders lock in the fall and, being under emotions, start to get rid of the purchased assets, increase the supply in the background of the low demand. All of that leads to the appearance of a downward trend.

Similar to the situation with the upward trend, several phases of redistribution may be initialized.

As soon as the bear market exhausts itself and prices fall to the minimal ones interesting to the ‘Composite man’ values, it starts it all again by initiating the beginning of the accumulation phase.

Trading approach based on Wyckoff’s five steps

Wyckoff also came up with five steps that allow implementing your trader’s potential in practice with a minimal number of mistakes and contradictions:

  1. Firstly, define the active trend: where the asset goes, how far the movement has gone, and how far it may go.
  2. Study the ratio of the asset and market – how powerful the asset is in relation to the rest of the market and whether it moves towards one direction with it or demonstrates the opposite trends.
  3. Find out if there are conditions for the further growth of the cost.
  4. Calculate the probability of future growth.
  5. Pick the most appropriate moment to enter – to do that, study the charts, their behavior in the past, relationship to events in the market generally.

Conclusion

In 2021, it is been about 100 years since the time of Wyckoff’s last activity on data formation on trading basics and investment activity. But what encourages is that the results of this specialist’s work remain popular and in demand even today.

Wyckoff’s method is a tool intended to help traders make the most deliberate and logical decisions, excluding any emotional factors. The main aim is to reduce risks to a minimum and increase the final chances of successful investing.