Wednesday, August 18, 2010

Wyckoff, How I Trade and Invest in Stocks & Bonds

Richard D. Wyckoff’s writings never grow old. This book was originally published in 1924 and has been reissued by several publishers recently; it is still timely. For instance, in the “some things never change” department we have his case for investing in oil: “there is a threatened world shortage of oil and … this situation cannot be cured for a long time to come.” (p. 127)

In today’s post I will share some of Wyckoff’s pointers on how to invest and trade. To begin with, he was an ardent advocate of studying and practicing prior to committing money to the market. He himself only began to invest after eight years of study, and he started to trade six years after that.

He considered himself a speculator, where speculation “involves the use of intelligent foresight.” (p. 17) The theme of intelligence permeates Wyckoff’s text. Take chartists, for instance. Back when he was still a clerk, keeping charts was “looked upon as making one fit for the squirrels. In and out of many brokerage offices there hustled wild-eyed individuals with charts under their arms, who would hold forth at length on double tops and bottoms…. Yet none of them seemed to have much money.” (pp. 28-29) Their problem was not that they looked at charts. They were unsuccessful “because they followed a strict set of rules and did not use much intelligence. It seems that the charts told them exactly what to do!” (p. 29) With that putdown, he summarily dismissed mechanical trading.

By contrast, he viewed charts as “the concrete history of the impression of many minds upon the market. And my object in studying along this line was not to follow these indications blindly, but to see what kind of mental operations caused them.” (p. 36)

Wyckoff’s modus operandi was to have a small trading account (“not over five or ten per cent. of my loose capital”) and invest its profits into income-paying securities with the potential to appreciate in value. Wyckoff justified the size of his trading account psychologically. “There is a much greater satisfaction in operating with a small amount of money for various reasons: It makes you more careful, because, having set yourself to the task of realizing a large profit on a limited amount of operating capital, you plan your moves shrewdly and do not take risks such as you would if operating with more money.” (pp. 42-43) And then there’s the emotional high of seeing outsized returns on a percentage basis.

Wyckoff recalls a successful trading campaign in U.S. Steel that required little babysitting. “I used to wait for U.S. Steel to get into position where I expected such a sharp upward or downward move and then I would buy (or sell) 300 shares, placing a three point stop for protection. Every two points up I would buy another hundred shares, protecting each additional lot with a three-point stop. After the stock had risen about ten points I would discontinue buying. By that time I would have 800 shares. I would take my profit on a further advance or raise the stop order so that I was sure to have at least several thousand dollars profit.” (pp. 43-44)

No book on trading seems to be complete without a nod to the rhetoric of self-help. But here Wyckoff combines the standard pep talk (“We succeed in proportion to the amount of energy and enterprise we use in going after results.”) with the notion of intelligent foresight. “It is poor policy,” he continues, “to wait for Opportunity to knock at your door. I train my ear so that I can hear Opportunity coming down the street long before it reaches my door. When Opportunity knocks, I try to reach out, grab Opportunity by the collar and yank it in.” (p. 88)

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