BASIC LECTURE NUMBER TWO

TRENDS

The main subject of this tape will be trends; what trends are, what causes
them, how to identify and analyze them and how to use them in speculative
operations.
Let us define a trend first. A trend is to have or to take a particular
direction. It is the underlying or prevailing tendency of inclination of movement.
In other words, a trend is a tendency to move in a particular direction. Trends
are governed by the law of supply and demand. For a brief review, the law of
supply and demand says that when demand is stronger than supply prices will rise,
when supply is stronger than demand prices will decline. When demand and supply
are in equilibrium the price will move sideways or will be unchanged. This
sideways trend is called a trading range. Supply and demand must be judged by what
happens to the price; price, the number of shares bought and sold; volume and how
long it takes to complete the movement; time, in other words price, volume and
time.
Our purpose is to diagnose the direction and strength of the coming trend and
to take a position in harmony with it. We aim to take that position as the trend
is beginning to be established or, after a reaction within the trend has occurred,
to take a position as the trend is resuming its movement. CAUTION, DO NOT BUCK
TRENDS!
Price changes and trends which result from these price changes are caused by
an unbalanced condition of the flow of orders coming into the market. Please turn
to chart number one for a very simple illustration. Suppose an order for two
thousand shares comes into the market to buy a stock. The stock is selling for
$50.00 per share and there are only three hundred shares to be sold at that price.
The specialist could fill this order for three hundred shares and then raise the
bid price until the entire order is filled. We will assume that there are no
additional buying and selling orders coming in as this particular order is
executed. So, three hundred shares are sold at 50, another hundred shares at
501/8, two hundred at 501/4, a hundred shares at 503/8, five hundred at 501/2, two
hundred at 505/8 and these orders to sell have all been filled. At this point the
specialist still has six hundred shares to be bought. There are one hundred shares
at 503/4 and then at 507/8 the remaining 500 shares are bought. Thus the price has
moved up 7/8ths of a point in executing the order. This is extremely simplified.
In the actual market as this order would be executed, additional orders would come
into the market on both the buying and the selling side to be matched and executed.
The price would move back and forth depending upon whether there were more shares
to be bought or to be sold at any particular moment.
These trends may be portrayed in tabular form or in chart form. They may be
most readily analyzed when they are in chart form. We use three types of charts
primarily; a vertical line chart, a figure chart and a wave chart and in these
lectures we will discuss all three.
Most people think there are only two trends, however, there are three types
of trends classified as to direction of movement. There is an upward trend, a
downward trend and a sideways trend or trading range. There are many ways to
classify trends as to types or the size of trends. Elaborate systems have been
worked out to classify trends. Do not do this! It leads to extreme confusion and
very often to financial disaster. At Stock Market Institute we use four
classifications for simplicity; 1) the intraday, 2) the minor, 3) the intermediate
and 4) the major trend. This is not a precise or mathematically absolute
classification and we are not interested primarily in what you call a trend, but we
are extremely interested in your understanding of it. What is extremely important
is your understanding of the supply and demand relationships as the trend develops.
The intraday trends are caused by very small fluctuations; those fluctuations
occurring within a day and there may be several of these within one day. Intraday
trends are usually a day or two in duration. Essentially, a person must have an
intraday breakdown to analyze these intraday trends and it really requires a tape
readers operating setup and technique. Intraday trends on the Wyckoff Wave are
published on our daily stock report
Minor trends are made up, usually, of three or more intraday trends and are
moves of up to approximately 10 percent of the price of the stock. Usually they
last for a couple of days to a couple of weeks.
The intermediate trends which are made up of three or more minor trends and
are movements of around 15 to 20 percent of the (price of the) stock usually run
for a couple of weeks to a couple of months.
A major trend is made up of three or more intermediate trends and is a
movement of over 25 percent of the price of the stock. Usually major trends will
last for several months or perhaps much longer.
We wish to emphasize that you should not make a precise or exact mathematical
or absolute classification of strict percentages. There is a gray area between
intraday to minor, the minor to intermediate, intermediate to major. The important
thing is not how you classify the trend but your judgment as to the strength of
supply compared to the strength of demand. To show you how these trends persist
and persist and persist, on the Wyckoff Wave there was a major support trend line
drawn through the low of September 1953 and the low of 1957. This support line was
met on the low of the 1960 down market and the Wave turned upward. This support
line was finally broken on the 1962 decline.
We have found that very often we can illustrate principles best by drawing a
free hand chart or a schematic diagram to illustrate the general principles,
followed by a discussion of actual examples showing some classic situations and
some variations. To begin this study please turn to chart number two. On this
chart we have a study of supply and demand. The Wyckoff Course teaches (that) the
student must first learn and understand the motives, behavior patterns and the
emotions of the people who go to make up the market. For instance, it is normal
for people to go to extremes. In an advancing market it is normal for greed to
overcome reason resulting in a demand which pushes the stock up into an overbought
position. Likewise, in a declining market it is easy for fear to cause selling
which may result in lower prices causing more fear and supply which drives the
price down, down, down into an oversold position.
These market fluctuations are caused primarily by fear and greed. Let’s take
time out to discuss this for a moment. This is a good use of fear and greed.
Actually everything that you and I and everyone else does is to some degree based
upon the simple use of the emotions of fear and greed. At first they sound like
nasty words because they are very often used in a very non-complimentary way. We
mean them in a very delicate and positive way. There is nothing wrong (with) being
greedy as long as it is not carried to extremes. The reason you are studying your
Wyckoff Course is because you want to get ahead, you want to make money or protect
your capital. Furthermore, almost all of us carry life insurance because we are
fearful; we are fearful something will happen. This is a very simple use of a very
important emotion. Now, everything that you and I do is based upon some use of
these two emotions. We may rationalize and attempt to base our analysis and
actions on reason, but this fear and greed are still there to some extent.
The trouble is, in the stock market fear and greed are carried to extremes.
Let’s see what happens as the market begins to go down and panic selling comes in.
This is usually precipitated by bad news. Usually this fear selling will snowball
until it is finally stopped by superior demand coming in on a selling climax.
Gradually this fear runs itself out. It goes to too much of an extreme.
Similarly, the buying based on greed grows and grows on an upward move until it is
finally stopped by a buying climax. As the market moves up, too much greed comes
in. This process creates what we call the oversold and overbought positions or
situations. In the oversold area the stock or the market can go through
accumulation and in the overbought area it goes through distribution.
Let’s return to chart number two. Here we portray the market in a general
upward slanting trend. We call it the primary growth trend. Sometimes it is a
downward slanting trend. This is the general direction or rate of growth that the
market, an index, a stock or you might say the economy or company is taking. Now,
market prices, or the price line fluctuates widely above and below this growth
trend line. If we draw a line through the center of the general price pattern as
it moves up and down, we get somewhat of a curved line or cycle. It goes way down
below the primary growth trend line and then fluctuates well above it and then back
and forth. Again, generally the stock will go through accumulation in the oversold
area and distribution in the overbought area.
Now, please turn to chart number three. We can break down this cycle or wave
like pattern into four phases: 1) accumulation; 2) markup; 3) distribution and 4)
mark-down. We are interested primarily in what is happening to supply and demand.
In the accumulation area demand is coming in to gradually overcome and absorb the
supply and to support the stock at this level. In the mark-up area demand is
greater than supply. In the distribution area supply overcomes the demand, stops
the upward move and eventually begins the downward move. In the mark-down phase
supply is greater than demand. We can also look at this in another way. Mr.
Wyckoff says that each stock or each move goes through a period of preparation
before the execution of the move. This would correspond to the accumulation and
mark-up phases, the other preparation and execution phase being distribution and
mark-down.
In chart number three we have shown the oversold position as an area where
the intelligent and knowledgeable investor or speculator accumulates stock. The
overbought position is the area where he will distribute or sell his stock. This
pattern holds true whether his speculative objectives are short term, intermediate
or long term.
In chart number four we have portrayed a series of minor fluctuations or
intraday waves. These build up and build down and form minor moves or minor
trends. Actually, every upward or downward swing in the market whether it amounts
to many points, only a few points or fractions of a point, consists of numerous
buying and selling waves. These have a certain duration. They run just so long as
they can attract a following. When this following is exhausted for the time being,
that wave comes to an end and a contrary wave sets in.
The small buying and selling waves which occur during every stock market
session run so many minutes. These small waves are part of the larger waves which
run so many days and eventually make up movements which we call short term rallies
and reactions or minor moves. Our illustration shows this up and down price action
which reflects the buying and selling waves caused by the shifting relationship of
supply to demand.
In chart number four from A to B we have a series of intraday moves of
generally equal strength and in general the up moves are about the same strength as
the down waves. Thus, the stock moves sideways in a narrow trading range, a very
small trading range. However, from B to C we have a minor up move composed of
several intraday trends in which the rallies are stronger than the reactions.
Demand on the rallies is stronger than the supply which comes in on the reactions
and thus we have an upward minor trend.
In chart number five we have shown how these build up and build down into
intermediate advances and declines. All stock movements however large or small are
made up of buying and selling waves. A stock moves to a higher or lower level by a
series of surges a good deal like an incoming tide with successive waves higher or
lower than those preceding. As shown in chart five, the short term rallies and
reactions, the minor moves, build into intermediate advances and declines. By
studying the relationship between these upward and downward waves; their duration,
speed and extent and comparing them to each other we are able to estimate and judge
the relative strength of the bears and the bulls or better yet the supply and
demand as the price movement progresses.
In chart six we have a series of intermediate trends which form the long term
or major trends or to express it another way, the long term bull and bear markets.
From A to B we have an upward trend, a major upward trend which is composed of a
number of intermediate trends in which the up trends are stronger than the
reactions; demand is stronger than supply. You will be able to judge the supply and
demand on the basis of the price action, volume and time. There is a widened
spread and an increasing volume on the rallies. On the reaction there will be
decreased volume and a comparatively narrow spread compared to the rally,
indicating less selling on the reaction than there was buying on the upside. In an
up trend you should not have prolonged price weakness or massive dumping of stocks
on the reactions.
Continuing with chart number six from B to C we have a downward trend
composed of a number of intermediate trends indicating the good supply on the
downside and a lack of demand on the rallies. Again, you will be able to judge
this on the basis of the price action, the time and the volume. Volume should
remain good on the downside, the rallies however should be relatively weak,
indicating a lack of demand. There should not be wide spread or increased volume
or sustained increased volume and it may take quite a bit of time on the rallies.
The main point is that you have an unbalanced condition in the supply and demand
with supply good on the downside and a lack of demand, weak demand on the rally.
Let’s spend a little time with chart number six and discuss some variations.
Very often these stocks will go through a period of re-accumulation, building a
complete new count such as is illustrated from E to D. Sometimes instead of going
through a complete new count building process, the stock will simply come down, dry
up the supply and again resume the upward trend after having made an intermediate
correction. We have portrayed this at F. Often it will go through minor or
intermediate distribution in the major upward trends, precipitating and causing
these corrections. The same thing can occur in the down market with a rally in
which a stock will build a complete new stepping stone count for the down side, or
it may simply rally, run out of demand and then resume the down trend. This in
brief is the basic idea behind trends; how they are formed and what causes them.
Now let’s go into some practical applications including how you can measure
the trends and how you can trade a stock that has already begun this upward or
downward trend. Please turn to chart number seven. Chart number seven is a study
of two important trends in the Wyckoff Wave Index beginning in August, 1968. The
first important trend is from (point) number 1 to (point) number 2. The second is
a down trend from (point) number 2 to (point) number 3. The first is an
intermediate trend made up of several smaller or minor moves. The first minor move
is from (point) 1 to (point) 4, a reaction from (point) 4 to (point) 5 and then a
long move from (point) 5 to (point) 2 with some very small reactions such as (from
point) 6 to (point) 7. On an up trend there should be good demand on rallies
followed by a falling off or decreasing volume and a narrowing spread on reactions
compared to the prior rally. The Wednesday’s closing on the New York stock
exchange during the later half of 1968 caused some distortion in the normal volume
pattern. This usually caused exceptionally high volume on Thursday.
At SMI we use three methods of measuring trends; trend lines, thrusts and
half-way points. (First) we measure the angle at which the trend is moving through
the use of trend lines. Trend lines form a channel of movement similar to a frame
for a picture. There are two types of trend lines; 1) the normal use and 2) the
reverse use. (Second) we also measure the amount of progress that is made on each
drive up and drive down. This is called the thrust. (Finally,) the third
measurement is the half-way point which is an indication of comparative strength
and weakness and the adequacy of the correction.
When placing the trend lines, the thrust and the half-way point on your
chart, you should do it with a great deal of exactness. However, do not expect the
stock or the index to observe or reach them perfectly. For instance, on a reaction
within an upward trend, do not expect the stock to come down to the exact trend
line and turn upward. It may penetrate a little bit, or it may hold slightly above
the support line or the trend line. The important thing is how it reacts, not the
exact point to which it reacts.
 To break a support line on light or decreasing volume means relatively little
and often enables the stock to resume the up trend within the same primary trend
lines. To break the support lines on increased or high volume and good price
spread is a different matter. It indicates a change in the supply - demand
relationship and usually results in the stock establishing a new trend, perhaps a
new trend in the same upward direction. Another way to analyze the breaking of a
supply line is to study the possibility (that) it is creating an overbought
condition. It may result in a steeper angle of trend. To summarize, the breaking
of a trend line may result in establishing a slower or faster trend in the same
direction or in a complete new trend. The supply - demand relationship will
determine the continuing trend. It can change rapidly. So our advice is to watch
it closely. We usually identify trend lines with letters such a AA, BB, CC, etc.
It may be helpful for you to follow this practice and it will help us in our
correspondence with you if we all use the same system of letters and numbers.
At SMI we use two types of trend lines, the normal use and the reverse use.
In the normal use of trend lines, in an upward trend we draw the support line first
with the supply line drawn second, parallel to the support line. How do we draw
these trend lines? First, locate two consecutive lines of support on a reaction
and draw the support lines through those points. Examples of these are on chart
seven, line AA, which was drawn through points 1 and 5, and chart nine, line AA
drawn through points 1 and 3. Now, the supply line is drawn parallel to these
support lines; drawn through the top of the rally which occurs between the two
support points. On chart seven, line BB is the supply line drawn parallel to AA
through (point) 4. In a down trend, again using the normal use of trend lines, the
supply line is drawn first, through two important supply points. An example of
this is line EE on chart nine which is drawn through (points) 2 and 20 with the
support line FF drawn parallel to it through (point) 21.
With the reverse use of trend lines, in an upward trend, we draw the supply
line first, followed by a support line drawn second and parallel to it. An example
of this is on chart nine. Line CC is the supply line drawn through points 7 and 8
with a support line DD drawn second through (point) 11.
In a down trend using the reverse use of trend lines, the support line is
drawn first through two support points and the supply line drawn parallel to it
through the top of the rally occurring between those points. An example is line CC
on chart eight drawn through points 4 and 5 with the supply line DD drawn parallel
to it through point 7. We have never seen the reverse use of trend lines used
except by SMI. You should soon discover their unique value in your technical
analysis of individual stocks and of the market.
On chart seven we are going to use the normal use of trend lines only. Line
AA is the support line drawn through (points) number 1 and 5. The Wave meets
support several times near AA on small reactions, then meets it at (point) number 7
and turns up. At (point) number 8 it breaks through AA with wide spread and
increased volume indicating that AA is no longer operative. These shorter and
temporary lines within the more important trend lines often are very helpful in
alerting one to (a) coming change in trend, a change of character or a decisive
shift in supply or demand. They may be erased later when no longer needed. The
supply line BB is drawn through (point) number 4, parallel to AA and eventually it
is met at (point) number 2 and the Wyckoff Wave turns downward. We could also draw
another supply line, CC, parallel to AA through point number (12), when (price)
failed to reach line BB at (point) number 12. This would show the failure to reach
the line BB where it could or perhaps should have reached
Slowly study the price action and volume beginning with point number 1 over
past point number 8. Do you see the expansion of the price spread and the
increasing volume on each rally? This is evidence of good demand. Then, note the
lack of supply on the reactions. The volume shrinks on the reactions at (points)
5, 9, 10, 11 and 7. However, at (point) number 8 there was a decisive change in
character as supply was heavy, as shown by the wide spread and increased heavy
volume on the downside.
Now let’s draw the thrust. The thrust measures the price progress that the
stock or index makes on each wave within the trend. The thrust is the price
difference between consecutive tops in up trends or between consecutive bottoms in
down trends. To measure the thrust, we draw a series of horizontal lines at the
level the highs and lows are reached on the drive within the trend and connect them
with a vertical line. For example, we have drawn the thrust A1, B1 and C1 to
measure the net progress of each subsequent drive up on the move from (point) 1 to
(point) 2. A1 measures the amount of progress made from (point) 1 to (point) 4.
B1 measures the progress from (point) 4 to (point) 6. There is a sizable reaction
and a more prolonged reaction from (point) 6 down to (point) 7 and then C1 measures
the progress from (point) 6 up to (point) 2. Note the shortening of the thrust,
the lack of progress made on a move. This is an indication that you should examine
the market action very carefully to determine what is happening to that trend. It
may be running out of the underlying push caused by demand overcoming supply, or
opposition may be coming in to stop the advance, or supply overcoming demand.
There will be times when you will be in doubt as to whether you should draw
the thrust through a certain point. This is a matter of individual judgment. The
judgment will largely depend on the depth of the correction within the trend, the
time spent in the correction, your objectives and purposes and your perspective in
analyzing the trend. You will be well schooled in the basics however, as we will
present many examples for you to study and use as a reference.
Now for the half-way points. What is a half-way point? The half-way point
is used as a measurement of relative strength on a rally or reaction. To use an
example to calculate the half-way point, assume that a stock moves from 50 to 56, a
distance of six points and then reacts. The half-way point would be half of that
six points or at 53. Reverse the process for calculating the half-way point on a
rally following a decline. For instance, suppose a stock moves down from 30 to 21,
a distance of nine points. The half-way point would be at half of that distance
and is 41/2 points added to 21 (which) gives a half-way point of 251/2. On a
correction to a half-way point, do not expect the stock or the index to go to the
exact half-way point at the exact 1/8th. It is sufficient to meet support or
supply in the vicinity of that half-way point. The ability to hold above the half-
way point substantially is an indication of relative strength. The overrunning of
the half-way point is an indication of relative weakness. Again, on a reaction,
the important thing is not that it comes down to the exact 1/8th, but how it comes
down. It should react within an upward trend with a lack of supply, shortening of
spread and decreasing volume.
Let’s turn to chart number seven for an example of determining the half-way
point of a correction Calculate the exact half-way point on the reaction from
(point) 1 to (point) 4 mathematically. The low point at (point) number 1 was 2750.
The high at (point) number 4 was 2866 or a move of 116 points. One half of that is
58 added to 2750 gives a one half-way point of 2808. You can calculate all of your
half-way points this way. Do it mathematically. Do not guess because your eyes
will lead you astray. This half-way point was respected at (point) number 5.
Others have been drawn. Please note how the Wave held slightly above the half-way
point on the reaction to (point) 9 and over-ran it at (points) 10, 11 and 7,
indicating relative weakness. Thus, we have a normal up trend from (point) 1 to
(point) 2 with good demand on rallies, lack of supply on the reactions. The
narrowing spread at C1 and the over-running of the half-way points warned of a
possible change of trend. The supply on the downside at (point) number 8 confirmed
it.
After the Index reached (point) number 2 a long down trend began from (point)
number 2 to (point) 3. Using the normal use of trend lines we would draw supply
line DD through point 2 and point 13 with the support line EE parallel to it drawn
through point 14. At (point) 15 the Wave becomes oversold when the line EE is
broken and the Wave turns upward but does not reach line DD at (point) number 16.
Thus we can draw a new and a steeper supply line FF through (point) number 13 and
(point) number 16 with a support line GG parallel to FF through (point) number 15.
Please note how the failure to reach the supply line DD at (point) number 16 put
the support line EE in jeopardy at (point) number 17. When we draw a new and
steeper line such as FF, it is usually best to continue the original line such as
DD as it may come into play much later. Do not fail to extend major lines a long
way.
Now, let’s measure the thrusts on the move down from (point) 2 to (point) 3.
D1, E1, F1 and G1 measure the thrusts on the wave from (point) 2 to (point) 14,
(point) 14 to (point) 15, (point) 15 to (point) 17 and (point) 17 to (point) 3
respectively. Again, note the shortening of the thrust at G1. It is an indication
that either the Index is running out of supply or demand is coming in to stop the
down move. It is a visual indication signaling you to be alert and very careful in
your analysis and in your trading.
The rallies to (points) number 13, 16 and 18 first overran the half-way point
at (point) 13, then stopped in the same area (as the half-way point) at (point) 16
and then failed to reach the half-way point at (point) 18, showing progressive
weakness. We should calculate the half-way points on the minor moves, but (only)
after these minor half points have been over-run substantially. Then go back and
calculate the half points on the more important moves such as from (point) number 2
to (point) number 3. This point is 2865 and is shown by the bracketed half number.
This move from (point) number 2 to (point) number 3 is a normal down trend with
good supply on the down side evidenced by expanding price spread and volume and a
lack of demand on the rallies shown by the narrowing of spread and decreased
volume.
Now, please turn to the “Chrysler,” chart number eight, which has an example
of the reverse use of trend lines. As “Chrysler” starts down from point number 1,
the first line which we can draw is the normal use of trend lines, line AA through
points number 1 and 2, with line BB drawn through (point) number 3 parallel to AA.
It should be noted that in drawing trend lines, we start off with the normal use of
trend lines. Later on, after additional support and supply points have been
created it may be possible to switch to the reverse use of trend lines.
We have drawn line CC, which is the reverse use of trend lines, through
points 4 and 5. You may ask; why use reverse rather than normal? Well, the
importance of the reverse use of trend lines is that it is determined by the points
at which the opposition came in to stop the move. Look at (point) number 4 on
“Chrysler.” It went down from (point) 2 to (point) 4 and volume came in. There
was good supply, but there was good demand to stop it, even on a temporary basis.
There was a battle going on there and “Chrysler” rallied slightly from that point.
At (point) number 5, again the price came down and demand came in to stop it.
There was increased volume and an increased amount of trading and the down move was
stopped temporarily. It is important to remember (that) there are two ways to go
down. Price can go down and have an increased supply met by a superior force of
demand at that point or price can go down and simply drift and drift and drift
until it stops and ultimately rallies. The reverse use of trend lines is drawn
through where it is stopped; where the opposition came in and actively stopped the
trend; to stop it and reverse it even on a temporary basis. Later on demand may
come in at the same angle to stop the move. Points 4 and 5 respectively,
illustrate this thought. Now, what about the supply line. We draw the first
supply line, DD, through (point) number 7. It is the supply point on the rally
between (points) number 4 and 5. DD is met at (point) number 8. The price fails
to meet CC at (point) number 9 indicating strength. Then DD is broken at (point)
number 10 indicating demand overcoming supply. We can also draw a line EE through
point number 1, parallel to CC; again the reverse use of trend lines. Notice the
anchor point for line EE is at point number 1 where the preceding up trend was
stopped or more correctly stated, where supply overcame demand.
In drawing your trend lines, you may have to experiment, trying several
points and try both the reverse use and the normal use. This failure to reach one
line leaves the other vulnerable to being broken. A helpful tool to use is to draw
an arrow from a stopping point to the trend line (in order) to indicate the failure
to reach that particular trend line. For example, see the arrow drawn between
point 9 and the support line CC.
Now, please turn to chart number nine, “Grace.” From point number 1 to point
number 2, “Grace” is in a long up trend. The support line AA, using the normal use
of trend lines, is drawn through points number 1 and number 3. The supply line BB
is drawn parallel to AA through point number 4, the top at rally points between
(points) number 1 and 3. At point number 5 the stock fails to meet line BB and
then penetrates line AA at (point) number 6. The breaking of line AA at (point) 6
occurred on low volume, decreasing volume and a narrowing spread, indicating a lack
of supply on this reaction. This lack of supply indicated that “Grace” was not
about to have a change of trend.
The stock rallied well and began a long move from (point) number 6 to (point)
number 2. The reverse use of the supply line CC was drawn through (points) number
7 and 8. Note the volume that came in at both of these points. (Numbers) 71 and
81 are indications on the volume level. Supply came in to stop the advance. Line
CC was respected several times around (point) number 9. At (points) number 10 and
2 the stock became overbought on the clear penetration of line CC, leaving the
stock vulnerable to a reaction. The support line DD, drawn parallel to CC through
(point) number 11 was then penetrated on the reaction from (point) number 2.
The thrusts A1 through F1 have been drawn to indicate the amount of progress
on each phase of the move up. Note the narrowing of the thrust at B1 and the
prolonged and deep reaction which follows. Also the narrowing of the thrust at F1
disclosed the lack of progress at point number 2, which, as the price action shows,
was the end of move. The reaction lows at (points) number 12, 3 and 6 were
significantly below the half-way point, indicating relative weakness on those
reactions. However, from that point on the reactions to (points) number 11, 13 and
15 held considerably above the half-way point, indicating relative strength.
There are a series of supply points between (points) number 7 and 16 and two
half-way points could be calculated from (point) number 6 to (point) number 7 or
perhaps from (point) number 6 to (point) number 16. This is an illustration of how
sometimes judgment must be used and how you may not have a clear cut situation with
which to deal.
Thus far we have discussed how to analyze the trends aided by trend lines,
thrust and half-way points. How do you put it to practical use and how can you
take a position in a stock which already has moved out of the base and has
established its trend? The following is one procedure which has proven to be quite
helpful and profitable to many students. In an up move, first of all determine in
fact (that) the stock is in a normal up trend. It should have good demand on the
up moves and a lack of supply on the reactions. Second, the stock should have
plenty of count for a much higher objective. Why? Because you do not want to be
buying into a trend as it is coming to an end. Third, calculate the exact half-way
point and place a stop order below the preceding support area. Then as the stock
continues its normal reaction your buy order may be executed. Reverse this process
for a down trend.
Let’s see how this works out in practice in this example. An analysis of the
chart action to (point) number 5 indicates that the stock is establishing a normal
upward trend. It has good demand on the rallies and a lack of supply on the
reactions. In applying this technique of buying around the half-way point on the
corrections we calculate the half-way point on the move from (point) number 3 to
(point) number 5 which is at 371/4. We can place an order to buy around this area
just above the half-way point, perhaps 1/2, 3/4 or maybe a full point above the
half-way point and a stop order below (point) number 3. This means that very often
we will have to ride out a bit of correction as we are buying on the reaction and
we rarely will buy at the exact low point on the reaction. However, if it
continues the normal reaction, it should dry up the supply and resume the upward
trend. This occurs at (point) number 6.
By placing an order to buy ahead of time, just above the half-way point on a
reaction, the order may not be executed. For example, after the rally from (point)
6 to (point) 7, as the stock did not get down to the half-way point, the reaction
at point 11 held above this level. Such an order may not have been executed on the
reactions to (point) number 11, (point) number 13 and (point) number 15. If your
order is not executed, you can cancel the order and simply look elsewhere for other
opportunities or evaluate your risk gain situation and possibly purchase the stock
on the next reaction. It is important to realize there are times when you may
decide to ride out a correction. Simply take the risk, follow it through and if it
looks as though your stop order may be executed, you may get out before it is
reached. No market technique is perfect. It will require considerable practice
trading before you will be able to operate with any technique with competence and
confidence.
Part of your problem in buying on reactions in trends is going to be the
problem of judging when the supply is drying up or when it has dried up on the
reaction. You may take the speculative position in one of two ways. Either put
the order in ahead of time as previously discussed or secondly, wait until the
stock has completed its reaction and then buy as demand is coming in, such as after
the reaction at (point) number 6, to buy at (point) number 17 as the stock is
moving up. Both methods have their good points. We have generally found that it
is best to buy as the stock is reacting as the risk is at a minimum. There are
many false starts which can fool you and can result in your buying at the top of a
minor rally such as at (point) number 18.
The move from (point) 2 to (point) 19 is a perfectly normal down trend with
supply on the downside and a relative lack of demand on the rallies. We have drawn
in line EE, the normal use of trend lines, through points 2 and 20, with the
support line FF parallel to it, drawn through the bottom of the reaction at point
number 21. At (point) 22 to (point) 23 this support line is respected. The half-
way points and the thrusts have been drawn. On the rally from (point) 21 to
(point) 24 the stock did not get near the half-way point between (point) number 2
and (point) number 21. An order placed around the half-way point would not have
been executed. However, an order to sell short placed just below the half-way
point from (point) 2 to (point) 25 would have been executed at point 20 and would
have resulted in rather large profits. This half-way point is at 481/4. A stop
order could have been place around 511/8 or 503/8, which would be just above the
prior resistance area at (point) number 26.
Remember that the longer the trend is in progress and the nearer you are to
the end of the trend, the more risk attends buying or selling short on the
corrections around the half-way area. Your greatest profit potential and your
least risk will occur when the stocks are leaving the accumulation or distribution
areas or are very early in the trends. It is at this point where your profit -
risk ratio will be the greatest and you will be able to use liberal stops.
Chart (number) ten is of “Amrep Corporation,” on the American Stock Exchange.
At (point) 1 around the $11.00 a share level the stock began moving up and was
still in the up trend as of the end of this study. The purpose of this discussion
is to analyze the trend and to discuss how a speculative position could be taken in
this up trend. We must make the assumption for this purpose that there is a much
larger count on the figure chart for a much higher possible objective. Beginning
at (point) 1, cover up the chart to the right of point number 1 with one sheet of
paper. Gradually move the paper to the right, uncovering the chart a few days or
lines at a time. Note on the move from (point) 1 to (point) 2 (that) there is an
expansion of price spread and volume on the rallies and a decrease in volume on the
reactions along with a narrowing spread. Following (point) 2 the stock begins to
react with somewhat decreasing volume.
Our purpose in this illustration is to place an order to buy and have it
executed as the stock reacts. The exact half-way point of the rally from (point) 1
to (point) 2 is at $17.00 per share. Suppose we decided to place an order to buy
slightly above that half-way point, say 173/4. We must next place our stop order.
There are two choices. We could put a floating stop order a couple or three points
below the half-way point, say at 137/8 or we could place it underneath the support
area bracketed at (point) 3 at around 117/8. Which stop you will use will depend
directly on the amount of risk that you wish to take.
The stock continues to react to (point) 4 and the order is filled. At that
point a bit of volume comes in to stop the down move. It has had a lack of supply
as shown by the narrow price spread on the down side and the drying up of volume.
The stock goes to (point) 5. Is there good demand on this rally? Our answer has
to be yes because of the wide price spread and the increased volume on the rally.
Now, as it begins to react from (point) 5, calculate the half-way point from
(point) 4 to (point) 5 This is $23.00. Place an order for a second position above
it, say at 233/4. Next, enter a stop order below (point) 4, perhaps at 167/8. It
reacts with a lack of supply, less price weakness, a narrowing spread on the
downside and somewhat decreased volume on the reaction to (point) 6. The buy order
is filled.
Now, just because you have bought a stock does not mean (that) it is going to
go up immediately: Neither can you put it away and forget about it. You must watch
it carefully. On the move from (point) 6 to (point) 7 there is good demand and on
the reaction to (point) 8 there is a lack of supply and a gradual drying up, a
decrease in the volume. Draw support line AA through (points) 3 and 4, normal use
of trend lines with the supply line BB drawn through (point) 2 parallel to AA. At
(point) 8 the stock is oversold, however, look at the volume and the price action
as that line is broken. It is without pressure and thus it may develop a slower
trend in the same direction, but will probably not have a complete reversal of
direction. This is a judgment decision you must learn to make. We could take a
position on the reaction following (point) 7. However at (point) 5 and at (point)
7, it became quite overbought, indicating that it was vulnerable to a reaction.
Also, an analysis of the thrust indicates that at C1 there was a very pronounced
shortening of the thrust. Supply is coming in at lower levels and there may be a
more pronounced reaction. Thus, calculate the half-way point and then watch it as
it reacts. It is usually better to be safe and go into the stock market when you
are more certain than to take unnecessary risks. The reaction at (point) 9 is with
more pronounced price weakness compared to the reaction following (points) 5 and 2,
thus, we simply stay out of the situation for the moment.
We may calculate the half-way point from (point) 4 to (point) 7 as being
$24.00 per share. This however is very close to the position already taken at
(point) 6 and a new purchase would be at about the same price level. It is usually
best not to do this. If capital is available, look for another opportunity.
However, the reaction to (point) 8 is a normal correction within the trend. It
shows a drying up of supply. The move from (point) 8 to (point) 10, again has good
demand. Notice the increased volume on this rally. On the reaction following
(point) 10, it began to come down with decreasing volume and decreasing spread. We
calculate the half-way point as 277/8 and enter an order to buy, say at 281/2. Put
a stop order below (point) 8 at 217/8 and the buy order is executed on the way down
to (point) 11. At (point) 12 there is some heavy volume causing a decline, but it
finally dries up at (point) 13 and the stock resumes the upward trend. We now have
three positions taken on the reactions to (points) 4, 6 and 11. We aim to sell out
as the stock is meeting important objectives, preferably on a buying climax. At
(point) 14 the stock goes through such a buying climax at an important objective
area and we sell all or part of the long positions. Let us assume that all is
sold.
The stock begins to react from (point) 15, which is the secondary test of the
buying climax (which took place at point) 14. As it does so, there is a marked
shrinkage of volume and a lack of price weakness. It is entirely possible that the
major upward trend is still intact. We have seen heavy demand on the rally from
(point) 13 to (point) 14 and a lack of heavy supply on the subsequent reaction.
The half-way point of the move from (point) 12 to (point) 14 is at 357/8. One may
place an order to buy just above that half-way point at 361/2 and a floating stop
order two, three or four points below it, say at 327/8 and (then) watch the stock
as it reacts. The order to buy is executed at (point) number 16. At (point)
number 17 volume comes in to stop this minor reaction. The secondary test at
(point) 18 confirms that the selling has dried up. The stock moves up to (point)
19 and begins to react. The half-way point is at 407/8 and an order is placed at
411/2 with a stop underneath the support level at (point) 20, say at 367/8. There
is much more price weakness and volume than we would like to have on (this)
reaction as our order is executed at (point) 21. However, the stock eventually
moves sideways and resumes the upward trend.
What could help us as we attempt to determine where it could resume the
upward trend. One thing is the reverse use of trend lines CC drawn through
(points) 5 and 14, where volume came in to stop the upward move. The support line
DD (again reverse use) is drawn parallel to CC through (points) 12 and 13. At
(point) 22 the stock meets support at DD and resumes the upward trend. On the move
from (point) 22 to (point) 23 there is good demand on the rally and then it begins
to react with a lack of supply. Again calculate the half-way point at 421/2, put
in a buy order at 43, a stop order underneath (point) 22 at, say, 377/8 and let the
order be executed as the stock reacts. It is executed. Our stop order is not
touched off and we now have three positions taken on the reactions to (points) 17,
21 and 24. There is still a normal up trend action with good demand on the rallies
and a lack of supply on the reactions. The stock moves from (point) 24 to (point)
25 and we could attempt to take a position again on the reaction following (point)
25. The half-way point is at 471/4. Place and order to buy just above it, say at
473/4 with a stop order underneath (point) 24 at 407/8. On the reaction to (point)
26 this buy order is executed. We now have an additional position and as of the
end of this chart we have a profit in all four of these positions. Now, why don’t
you figure out the profits accrued on each speculative position taken.
On this tape we have dealt primarily with normal trend action and a normal
correction and reaction within the trend. However, there are two ways that a trend
may be corrected. One is a normal correction, which we have just discussed. The
other is with an ordinary shakeout. As the ordinary shakeout is very similar to a
terminal shakeout, this will be discussed on the tape on terminal shakeouts and
springs.
Now for a word of caution. Be very careful of an action which is not normal,
for instance in an up trend, when the stock runs out of demand. This would be
indicated by a narrowing of the spread and a decreasing volume as it continues to
move upward. Also be careful of heavy sustained supply on the downside. This is
not normal for a normal correction.
In a sustained down move be careful of good demand, wide spread and a long
sustained volume on a rally. The running out of supply in the down trend,
evidenced by decreasing volume and narrowing spread can leave it vulnerable for a
rally. In taking a speculative position, you should take the position as early in
the trend as possible, preferably as the trend is being established. It is
especially important that you pyramid with the trend. Do not take a second
position when your first position shows you a substantial loss.
These are the basic concepts of trends and one method of taking a position as
a trend is being established or as a trend is about to be resumed. It is not
necessarily the only method of establishing a market position in a trend. However,
it has been tested by many, many students and by the staff of the Stock Market
Institute with excellent results. We suggest that before applying this technique
with any sizable portion of your capital that you do extensive practice work with
it.
This has been the Basic Lecture on Trends, Thrusts and Half-way Points. We
have illustrated some proven techniques in establishing a speculative position in
harmony with the trend and to close out that position as the trend is ending.
Listen to this tape regularly. Study the illustrations carefully. Then, practice;
practice until you are competent and confident in your use of this proven
technique. Then begin to profit from the knowledge and skill you have developed.