Wyckoff’s stock selection process always included an analysis of comparative strength. To identify candidates for long positions, he looked for stocks or industries that were outperforming the market, both during trends and within trading ranges, whereas, with short positions, he looked for under-performers. All of his charting, including bar and Point and Figure charts, was done by hand. Therefore, he conducted his comparative strength analysis between a stock and the market, or between a stock and others in its industry, by placing one chart under another, as in the example below.
Wyckoff compared successive waves or swings in each chart, examining the strength or weakness of each in relation to prior waves on the same chart and to the corresponding points on the comparison chart. A variation of this approach is to identify significant highs and lows and note them on both charts. One can then evaluate the strength of the stock by looking at its price relative to the previous high(s) or low(s), doing the same thing on the comparison chart.
We use TradingView as our software provider. There’s a very simple compare function which allows you to pick the parent index which automatically overlays the price history over the underlying asset chart – for example SPX would be the parent index of any security in the S&P500. As a general rule, we try to be long outperformers and short underperformers. However, sometimes we will make an exception. For example, a stock shows significant weakness in the background, has experienced stopping volume at the point of the selling climax and has formed a trading range over a significant period of time as accumulation takes place. Evidence of accumulation coupled with a marked change in behaviour both in price and volume, a ‘jumping the creek’ and signs of strength may point to such a strong cause, that the likely effect may be significant. The stock may have historically been an outperformer but due to recent weakness has slipped behind the parent. The probability based on growing evidence that a move upwards is expected, can sometimes justify the purchase. However, nothing is guaranteed so strict stops must be put in place as always, and perhaps a lower risk should be applied (% of AUM) than normal.
“May your longs go up, your shorts go down and your flat positions stay sharply unchanged. Safe trading.”
Nick