PRACTICE TRADING TAPE

NUMBER SIX

This is practice trading tape number six. No doubt you have come to realize from
this set of tapes that we put an incredibly high priority on practicing what you have learned.
In fact, we would rank practice trading ahead of profits on a list of priorities. The reason is
simple: Unless you have working knowledge of what you have learned, it will produce
nothing. The printed and spoken words in the Wyckoff Course are only a beginning.
They require the development of good judgment to yield their full potential. You may
choose to develop this judgment through actual market operations or through practice. But
we think (that) you will find the practice trading approach more constructive and much less
costly. As we said though, the choice is yours. We cannot make it for you.
As high (of) a priority as we place on the general topic of practice trading, it is not at
the top of the list. The single most important part of any market operation, be it practice or
real, is protection. We have saved this topic for last in the hopes that, if nothing else from
the series of tapes is retained, at least this one absolutely critical point will be. You see, the
only thing worse than an investor who does not maintain an ongoing program of practice
trading is the investor who will not or does not no how to properly protect his funds. Even
the trader who is very successful runs the risk of many major setbacks if his efforts at self
protection are inadequate. Learning how to safeguard funds against potential major loss is
the one sure way to guarantee that your personal investment or trading program will have a
tomorrow.
In order to protect yourself against something it is necessary to begin with an
understanding of what it is that you are protecting yourself against. It is fine to say that
protection is being taken against potential loss, but that is really not enough. Losses are
results not causes. If anything is to be gained, the causes must be determined. These are
universal and therefore are very well known. The underlying cause of a loss in any
particular trading situation is the trader’s own fear and greed. What this says then is that in
taking steps to protect his funds an investor is actually attempting to protect them from
himself. This fact makes the effort much more challenging. Dealing with an external force
is normally much easier than handling one that is internal.
Fear and greed are very different. They come into play at different times and are
responsible for different types of problems. Fear, when it is the cause of a loss, generally
results in a loss of opportunity. These are the trades that somehow manage to get away
from you even though the potential was perceived. Greed is perhaps more basic. When it
is responsible for a loss it is a loss of already realized profits. These are especially painful,
but both are serious problems. They will assist you in relinquishing as much of your
resources as possible if you let them. The object is not to let them
First let’s consider protection against fear. Some long term traders may appear to
approach each of their commitments with nerves of steel. They always seem to be so totally
objective and completely unemotional. Don’t you believe it. No investor, no matter how
good his record, ever approaches a commitment without at least a small measure of fear.
Any fear that does exist works in two ways. As already mentioned, there is the fear of
missing an opportunity, but there is also the fear of incurring a major loss. The protection
against each is somewhat different. Protection against the fear of missing an opportunity is
discipline. Nobody wants to be left out. This is especially true when it comes to stock
market profits. One supposedly sure way to prevent being left behind is to get on board
early. That’s exactly what most of us do. We’re so afraid of missing a profit that we tend
to constantly trade too early. The common mistake made here is to conclude that a little bit
of a wait is no problem because the eventual result will justify it. How do you know it’s
going to be just a short wait? That’s an assumption. A much bigger problem, however, is
that the judgment (upon) which the trade is based may be invalid. If a position is taken
 2

too early, it cannot possibly be based on a thorough appraisal of the opportunity that
the trade is intended to take advantage of because that opportunity has not had a
chance to fully develop. That means something could go wrong. If it does, the position
will probably be stopped out. Unfortunately there is no mechanical tool that will invariably
keep you from trading too early. There are however, a series of tools that, when used
correctly will help force a disciplined approach to the proper timing of trades. These are
the buying and selling tests that you will find in your Wyckoff Course. These can be
used as a check list of criteria that must be met before any position can be taken. Even so,
the stock bought or sold short may not begin to move immediately the next day, but it will
have the potential.
A position taken before all (of) the tests have been passed won’t start to move
immediately either, but in this case, it is lacking the potential as well. In applying the tests
to a stock, you are working on a pass or fail basis. The stock either passes all nine tests
clearly or it fails as a candidate. There is no room for (a) marginal pass and definitely no
room for guessing. If you can point to the action that results in the passing of each test,
your position will be taken in time to take advantage of the most important part of the
anticipated move. At the same time you will greatly reduce the chances of losing the
position to a stop. There may still be a slight feeling of fear, but your actions will be
keeping it from becoming anything more.
The other type of fear is of incurring a major loss. Let this one take control of your
actions and you will find yourself never doing anything. Fortunately very few investors
ever become this totally possessed by such fear. For most the desire to be doing something
is just to great to be totally ground to a halt by fear. Overcoming, or at least controlling
the fear of loss is possibly the easiest type of protection to ensure. It is done with a
stop order.
The use of a stop order allows the investor to make and maintain a relatively
objective appraisal of a perceived opportunity. It lets the investor take comfort in the fact
that if his appraisal is badly flawed, his loss will be cut short before it turns into a disaster.
The stop order will do its job of protecting the investor, providing (that) it is not a mental
stop. The mental stop order is a device used by some traders whereby they can admit to a
mistake without having to pay the price. This sounds like a perfect situation, but it is really
an exercise in self deception. If a mistake has been made, the price can be paid now or it
can be paid later, but be assured that eventually it will be paid. Often, delaying the payment
only makes it worse. If a mistake wasn’t made and the mental stop is hit, it suggests that
the thought that went into the placing of the mental stop was not sound; it had no business
being at that level in the first place. It probably wouldn’t have been there either if the stop
had been an actual order and not a thought filed away for safe keeping. A commitment with
cash or on paper tends to be more well thought out. There is simply no good reason not
to use a real stop order and no good reason to use a mental one. On this last point there
may be one possible exception, but we will get to that later.
Sometimes the fear of a major loss and fear of missing an opportunity can get in
each others way. The fear of a missed opportunity may result in a premature trade. The
fear of a major loss will result in a stop order being placed. If a trade has been made too
early, the stop may be too close to survive the remaining and unknown action of the trading
range. In these cases the position may be lost to a stop resulting in a loss even though the
eventual outcome has been properly diagnosed. This may be the most frustrating trading
experience an individual can have. If it happens repeatedly, it can become quite
destructive. Nobody wants to be penalized for being right. Someone who is (so penalized)
on a regular basis probably will turn his interests toward something other than the stock
market. If the buying and selling tests are regularly used, the chances of being stopped out
in situations other than those that deserve to be, are small: This is, providing (that) the stop
orders that are used are properly placed.
Using a stop correctly means maintaining a profit - risk ratio that is in your favor.
Be careful however, that you don’t end up using this idea in a way that unduly restricts the
stock’s ability to move. An extremely high profit - risk ration would seem to be in the
traders favor, however if it increases the chances of being stopped out, the result will be
more harm than good. The problem with very high profit - risk ratios is that they require
unusually close stop orders, unless the amount of potential available is massive. There is
nothing wrong with having a close stop, providing the investor’s records indicate very good
timing. As a stop order is brought closer to the trade prices, the margin for error in
timing that trade will become smaller. Not only must you be right, but you must be right,
right now! It’s true that trades lost to the close stop orders required by high profit - risk
 3

ratios will be small, but if they become very frequent, the cost will start to get quite high
before long.
Over the years we have found that the most generally acceptable profit - risk ration
is 3 to 1. First of all, it prevents a major loss. Assuming that funds have been diversified
into several positions, the overall loss, even though the stops on individual positions may be
rather liberal, should remain small. It also gives the stock some breathing room. It is
unreasonable to assume that every stock will be caught exactly at its turn. A long position
may move somewhat lower before it turns up and a short position may move somewhat
higher before it turns down. You have got to allow some margin for error. No trader is
so good that he can hit the exact top or bottom every time. Without a little breathing room
otherwise very sound positions will be lost to their initial stop orders. A 3 to 1 profit risk
ration will help prevent this.
Now, let’s move on to the subject of protection against greed. No doubt you have
heard the phrase that “nothing succeeds like success.” This may be true in many endeavors,
but there is some question as to its validity when it comes to the stock market. Here the
saying might more aptly read: “Nothing impedes like success.” From an objective
standpoint you would think that when a reasonable profit has been developed in a position
there would be a great deal of satisfaction in (the) taking of that profit. Unfortunately, it
doesn’t always work that way. Given a certain level of profit there is a tendency to want
more instead of being satisfied. If this desire switched on in our mind suddenly, it would be
obvious and probably could be controlled more easily. Greed however, is sneaky. It
doesn’t just stand up and say; “Here I am.” It tends to creep in with very legitimate
consideration and then gradually take over. Consider these examples. A stock is in an up
trend and has been for quite some time with good upside progress being the result. The
stock becomes overbought, reaches its upside objective and then drops back into the trend
channel. There are two good reasons here for selling this stock, but the support line
remains intact. By concentrating on this last point, the more important points mentioned
first can easily be overlooked. The desire to have more profit causes the situation to be
analyzed from that standpoint and not from the standpoint of things as they really are. At
that point greed has taken control and the profit already gained is put in jeopardy.
Here is another example that is probably more classic. A stock is in an up trend. It
has fulfilled one phase of a two phase advance. The recent action of the stock has been to
become overbought, move sideways and then break its up trend. This stock is potentially in
very serious trouble, but it has that higher objective. If an investor is particularly prone
to greed, the existence of a higher or lower objective is an almost sure way for greed to
take over. The current action starts to play a more and more secondary role to the
possibility of a bigger profit. At this point it is the desire for that profit that has taken over.
The stock can do whatever it pleases: Its action will not be given the consideration (that) it
deserves. Having some idea of how greed enters into a situation and (how it) gradually
squeezes reason out is a form of protection, but it is not enough. Greed is probably the
single most destructive force at work in the market. Counting on being able to catch it
in the act before the damage is done will not work and trying to practice trade this idea
probably will not work either. You can take a whole mountain of practice positions and
every day with each one tell yourself: “I will not be greedy! I will not be greedy!” Before
long though, don’t be surprised if you find yourself saying: “That’s not being greedy is it?”
When this happens you are just one step away from the final statement: “I was greed after
all, wasn’t I?” The only way to totally protect oneself from greed is to take steps against it
at the time a position is One of the best ways to do this is to predetermine and pre-
establish a sell or cover order in the area of the anticipated objective. When the stock
reaches that level the established. position will be automatically eliminated and the profit
protected.” Greed won’t even have a chance.
Not every position is going to make it to its indicated objective. We’ve already seen
how the idea that they will plays right into the hands of greed. In those cases where the
ultimate objective is not met any pre-established sell or cover order will not be executed.
Does that mean no protection. It could mean just that, but it doesn’t have to. The stop
order can be used very effectively for this type of protection providing (that) it is used
correctly throughout the life of the position. That means repositioning it as the move
progresses. The first objective in repositioning a stop is to get up to or down to the
trade price as quickly as possible. One this is accomplished, the investor’s funds are
protected against loss and he can breathe a little easier. This repositioning, or any to follow,
cannot be done in a careless fashion. If it is, initial capital may be protected, but profits will
likely be scarce. Except in those very rare instances when a stock explodes upward or
downward to its objective, a move will be accomplished through a series of pushes and
 4

rests. The rest periods between the periods of progress are extremely important. They will
indicate when a stop can be moved and more importantly to what level it can be moved. A
resting period will either come as a normal correction or as a horizontal consolidation. The
stop should be repositioned just above or below the extremes of these periods just as
soon as there is an indication that the prior progress is being renewed. Don’t be in too
much of a hurry on this. If you cannot point to some action that clearly indicates the prior
move is about to be renewed, you may be setting yourself up to be stopped out by a
correction that goes a little farther than you had expected or by the consolidation that ends
with an unexpected shakeout or upthrust action. When a stop is repositioned every effort
should be made to maintain a 3 to 1 profit - risk ratio.
Suppose you had bought a hundred dollar stock with a twenty-five point upside
potential. Your stop could justifiably have been placed eight point lower at about ninety-
two. Remember, never place a stop at an even 1/8th. From here the stock advances to 115
and then reacts back to 110. At this point the volume dries up and the price range narrows
down, indicating that the reaction has come to an end . With the stock at 110 there is a
potential 15 points left in the move. To maintain a 3 to 1 profit - risk ratio for the next part
of the move, the stop should be placed about five points below the bottom of the reaction.
In doing this the investor is still providing the stock with some breathing room, protecting
all of his initial capital and guaranteeing half of the profit realized at that point. If this same
stock were now to rally to 120 and then react back to 115, the stop order could again be
repositioned. This time there would be ten points left in the originally indicated move, so
the new stop could be placed a little more than three points below the bottom of the
correction. Can you see the pattern here? As the move progresses resulting in more and
more potential profit to lose and less and less potential move left, the stop is moved
progressively closer to guarantee as much of the profit as possible, should something go
wrong in the final stages of the move.
There is an alternative method for repositioning stops which may be used. You
begin with an initial stop that maintains a 3 to 1 ratio. After this, the stop is moved up to a
level a fixed number of points from the end of the correction. Usually a figure in the three
to five point range is used: This method is certainly easy. Providing a stocks action is
watched carefully, it is an acceptable approach, but there are a couple of potential problems
that should be kept in mind. If a stock has a large potential, maintaining a three to five point
stop during the early stages of the move could result in restricting the action too much. At
the other end of the move, as the stock approaches its objective, the fixed three to five point
stop could result in giving the stock too much breathing room. You could be risking more
of your accumulated profits (than what) can be justified.
Now, let’s consider some examples. The stock we will study is “Johnson and
Johnson.” As the chart begins “Johnson and Johnson,” was finishing a lengthy period of
preparation. It is possible that a long position could have been justified on either the
reaction down to 77 in November or the one down to 76 in January. However, since we
cannot see the entire preparation phase, this could only be a guess. The first move that can
be clearly identified is the high volume aggressive rally to 88. This is a sign of strength.
Where there is an SOS there has to be an LPS and where there is an LPS, there
should be a buying opportunity. The low volume at the bottom of the normal half-way
correction in the 81 to 82 range provided that opportunity. For simplicity we will assume
that we were lucky enough to buy at 81. The indicated move from the last point of support
was 28 points. If taken conservatively, that results in an objective of 104. With a likely
potential of twenty-three points, a stop 75/8ths points below the trade price could have been
justified. This point is marked on the chart as “S1.” “Johnson and Johnson,” then rallied to
94 before beginning a rest period. When the stock began its reaction, we could have
expected a reaction to the half-way point at about 873/4. Notice the circled areas marked
“X.” The stock began to rally again. Was the correction over? We know now that it
wasn’t, but at the time that might not have been so easy to tell. Let’s see what would have
happened had we repositioned the stop at this point.
The low point of the reaction was 89. That meant 15 points of upside potential
remained. A five point stop could have been justified. That means it would have been
positioned in the 83 to 84 range. In this case the position would have survived. Let’s take
another look at that action marked with the “X.” Did it provide justification for
repositioning the stop? The answer seems to be no. The volume at the bottom of the
reaction was quite high. If the correction was over, the volume should have been low.
Now look (at) what happened to the volume as (the stock) started to rally away from the
bottom of the reaction. It decreased. Is that indicative of a true resumption (of) upside
progress? Again the answer is no. Failing to notice these important points could not have
 5

affected the outcome in this case. In other instances however, the result could be losing the
position to its stop. Simply using a stop order does not lessen the need for careful and
continuing analysis. The day (on) which the repositioning of a stop could have been
justified has been marked. Notice the wide spread, good progress and high volume.
That indicates a resumption of the rally. The low point of the reaction was 86. From
that point eighteen points of potential remained in the move. Therefore a new stop could
have been positioned six points below the bottom of the reaction. This has been marked as
“S2.”
After the stock rallied to 102 it again started to correct. The reaction carried the
price back to the half-way point on decreased volume. It then started to rally again with
good price progress and good volume. This provided justification for repositioning the stop
a second time. The bottom of the reaction was at 93. The remaining potential was eleven
points, so a stop around 89 was reasonable. Notice that in this instance the stock had to test
the bottom of the reaction before actually resuming the advance. If either of these tests had
failed, the newly positioned stop would have become very important. Depending on the
action that might have followed, this stop could have meant the difference between an eight
point profit and no profit.
At the end of the chart the stock appears to have again gone into a resting spell.
There is no action yet to indicate a resumption of the advance. Therefore there is no
justification for repositioning the stop. It should be noted that on the previous rally the 104
level was briefly touched, which is in the objective range. As a result, this stock should
now be watched very closely. It may be nearing the time to eliminate long positions.
The ideas in this tape and others are all basic and vital to success in the market. The
investor who seeks profits without first studying and understanding them is likely to be
doomed. The only thing he has to go on is luck, which is never especially reliable.
Knowledge of the Wyckoff concepts represents the taking of a giant step away from a
reliance on luck, but it is just a beginning. Profits are still not guaranteed. The knowledge
contained in the Wyckoff Course will only be of value when it can be transformed into
positive performance. Hopefully these past several hours of discussions have impressed
upon you that the only way to realize an acceptable level of performance is through
practice. The Wyckoff principles are not mechanical tools. They cannot simply be
switched on and off producing a set result. Proper use requires judgment. It’s something
like driving a car. A relatively young child likely knows how to get in and start the engine,
but that is probably about all. The car runs, but it doesn’t perform. That requires someone
who knows when to put it in gear, when to use the gas and brake and when and how to
steer. Only a small amount of this can be learned from a book, the rest has to come from
the development of judgment gained from continued practice. In many respects the stock
market is much more complicated than your car, therefore it probably will take longer to
develop the judgment required to yield the desired performance. It may take six months or
it could take six years. One thing is certain though, it won’t happen if you are unable
to accept the validity of the practice trading experience. Those who insist on fighting
this proven approach are fighting themselves and likely will give up in frustration some day
because they are fighting a battle that cannot be won.
From our standpoint, nothing pleases us more than to see a well thought out, well
documented and ongoing practice trading program. It is generally one of the best signs of a
good student. These individuals know exactly what they did and the details of why they did
it. If the action is successful there is a foundation on which to build repetition after
repetition. If something is unsuccessful there is a clear record from which to find the error
and an inexpensive lesson on what not to do in the future. If you need help in learning the
lesson, just let us know.
Throughout history a common response to problems has been to throw money at
them. It hasn’t worked very well in history and chances are it won’t work for you in the
stock market either. Can you afford this approach? Our guess is, probably not. So, why
not do something that works? Practice trade. There is no better time to start than right
now.