In the vast landscape of forex trading strategies, few names hold as much weight as the Wyckoff method.
Conceived by Richard D. Wyckoff nearly a century ago, this approach offers traders a framework for navigating the markets using price and volume. Originally designed for stocks, its core concepts and principles have proven adaptable to all markets, leaving an undeniable mark on modern technical analysis.
At the heart of the Wyckoff method lie three fundamental laws and a set of guiding principles that shape your entire market perspective:
Laws/Principals
1. Supply and demand
2. Cause and effect
3. Effort vs result.
Concepts
1. The composite man.
2. Chart analysis schematics (plans).
3. A 5-step trading approach.
Beyond the schematics and events, Wyckoff championed two key principles about market behavior, eloquently laid out in his 1933 masterpiece, “Stock Market Techniques.”
Truth #1: The Market Never Repeats
Wyckoff understood the market never repeats itself exactly. It’s constantly evolving, influenced by countless variables. Even if two price movements look identical, the underlying psychology and motivations of traders are likely different.
Every move requires fresh analysis.
There’s no room for complacency or assuming “this time is the same.”
Truth #2: Each Price Move Is Unique
Building upon the first truth, Wyckoff recognized every price movement is unique. This uniqueness demands that we compare and contrast price actions to decipher the market’s story. mparative approach is vital for understanding the Wyckoff cycle, which we’ll explain later.
These fundamental truths underscore the unpredictable nature of markets.
By recognizing the market’s constant evolution, you can avoid rigid thinking and adapt your strategies to the ever-shifting landscape.
Understanding Wyckoff’s 3 Market Laws
Wyckoff came up with several important concepts to define his trading method.
One of those concepts was his 3 market laws, which occur naturally and help form the market cycle – more on this later.
These 3 laws are as follows…
1) The Law Of Supply & Demand
The law of supply and demand (not to be confused with S & D zones) is one that permeates all financial markets. It’s also one of Wyckoff’s most important laws, being that it creates the price movement we see.
The law can be explained as…
Demand greater than supply = price rises
Supply greater than demand = price falls.
Demand almost equal to supply = price moves sideways.
The law of supply and demand comes from a simple fact about markets:
That people move prices!
In any market where people generate buying and selling, the law of supply and demand exists and creates the price movement we see.
If more buyers exist than sellers, prices must rise – demand is greater than supply. More people want to buy a product than want to sell. Therefore, price must rise to reflect the increase in buyer’s vs sellers.
The opposite also rings true…
If more sellers exist than buyers, price must fall – supply is greater than demand.
More people want to sell than buy, so price must fall to reflect the difference.
To gauge the level of supply and demand, Wyckoff uses price action and volume; price action to identify whether buyers or sellers exist; volume to confirm their level of interest in wanting price to rise or fall.
2) The Law Of Cause & Effect
In physics, the law of cause-and-effect states that every event is an action followed by a reaction. A bridge collapses; the cause was severe weather. The effect being no one can use the bridge anymore – not the best example, but hey, it makes sense.
Wyckoff also believed in the law of cause and effect but applied to markets.
He explains the changes in supply and demand (price movement) are not random but are initiated and preceded by preparation events, those being:
Accumulation (Cause) always leads to an uptrend (Effect).
Distribution (Cause) always leads to a downtrend (Effect).
These two preparation events, which we’ll talk more about later, create uptrends and downtrends on both macro and micro scales – accumulation leads to long-term uptrends made up of smaller short-term trends, also initiated by accumulation.
Understanding these two events is central to using the Wyckoff method and usually appears as consolidations or sideways movements on a chart.
3) The Law Of Effort vs. Result
The final law is one we all know too well… effort vs result.
To get a result, you must put effort in, no if’s and no but’s.
In Wyckoff’s teachings, effort vs result means price only changes because traders put effort (buying or selling) into making it change. It’s a way of measuring interest, basically.
If traders really expect higher prices, many will buy (high effort).
If traders aren’t convinced, many won’t buy (low effort).
To measure the level of effort, Wyckoff uses volume. Volume reveals whether significant effort is being put into the move or only a little.
The more effort being put in, the more likely price is to continue in that direction.
There is a catch, however…
Effort (volume) must match the price action.
If the volume increases during an uptrend (more effort) yet we see little bullish price action or even bearish action, something isn’t right. Price and volume are not in harmony. That suggests a change in direction via retracement or reversal could be gearing up.
Learning to read volume and match it with price action is a key skill to Wyckoff’s teachings, but it’s not required to use the method in your trading.
Wyckoff 101: Understanding The Composite Man
Financial markets consist of many participants, but Wyckoff suggests viewing the market as if controlled by a single entity:
The composite man.
In forex, the composite man represents the big players such as banks, hedge funds, and market makers. These guys essentially control the market and trade in a similar fashion. So, it makes sense to view them as one rather than separate groups.
Strategy-wise, the composite man uses manipulation and deception to mislead retail traders into losing money.
This is because forex is a zero-sum game, where the only way to win is via other traders losing.
That applies to every participant, from the composite man to us retail traders.
If you want to make money, you MUST take it from somebody else.
That’s how the market functions: one must lose for another to win.
For the composite man, this has two massive implications…
1) Smart Money Must Make Traders Lose
Since forex is zero-sum, the composite man’s entire trading strategy centers on manipulating traders into losing money. They want as many traders to lose as possible because that’s how they make a large profit.
They do this using a variety of tricks and tactics.
You can learn more about these in the articles across my site.
2) Smart Money Always Operate The Same Way
For the most part, retail traders all tend to trade in the same way; when price rises, they buy; when price falls, they sell. The big players (composite man) want retail traders to lose, and so always take the opposite action.
When retail buy, the composite man sells.
When retail sell, the composite man buys.
On the charts, this manifests as different price action structures.
For example, if price has risen for a long time, most retail traders are probably buying. That means the composite man can’t make money anymore – no one is losing! They must initiate a confusion event by taking price the other way, like a retracement.
That’ll shake out the late longs (weak holders) and push many into shorting.
Once enough retail traders are short, the big players can take price higher and profit again.
Overall, the composite man is a nice way to think about the market. It simplifies the big players into one group, which makes a lot of sense given they all trade in a similar fashion with the same objectives and strategies.