A 15 Year Analysis of Gann’s Trading Methodology!

How to Trade Like W. D. Gann
An Exploration of the Mechanical
 Trading Lesson on U. S. Steel

Contents & Sample Text

By
Timothy Walker

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CONTENTS

Preface                 What This Book Is About               7

Introduction          The Mechanical System                  13

Prologue               The Outbreak of War                     19

Chapter 1             The War Boom                                20

Chapter 2             Sideways Consolidation                   31

Chapter 3             Second Section of Bull Market        39

Chapter 4             The Germans are Coming               47

Chapter 5             America Enters the War                  53

Chapter 6             First Section of Bear Market           61

Chapter 7             First Rally                                        70

Chapter 8             Intermediate Decline                        77

Chapter 9             The Post-War Boom                        84

Chapter 10           The Great Recession                        89

Chapter 11           Start of the Great Bull Market        103

Chapter 12           Almost a Bear Market                     112

Chapter 13           The Roaring Twenties                     123

Chapter 14           The New Stock                                 146

Chapter 15           The Bull Market Resumes               155

Chapter 16           The Last Correction                        161

Chapter 17           The Final Grand Rush                     168

Chapter 18           The Wall Street Crash                     172

Chapter 19           The Not-So-High Plateau                182

Chapter 20           The Great Depression Begins          190

Chapter 21           The Last Rally                                 203

Postscript             The Aftermath                                 206

                Epilogue               The Challenge                                   208


PREFACE

What This Book Is About

(NOTE: Footnote references removed due to web formatting issues.)

This book originated out of a search for a text that would examine in detail the works of WD Gann. In the course of this search, I read many very good books written by experienced traders and authors, but I found that all of them discussed only parts of Gann, usually in relation to the author’s own personal trading methodology. In the end, I realised that if I wanted such a book I would have to write it for myself, and I determined that the first step would be to acquire the price data in order to construct the charts. Most of Gann’s lessons contain actual market examples, and I figured that these must be a key to understanding what he had written.

Accordingly, the intention of this book is to flesh out Gann’s original text and to develop and to some degree discuss some of the messages implicit in his writing. Most of his work was published in the latter half of a career that spanned more than 50 years. As such there are many points that would have been so obvious to him that he didn’t mention them and very probably didn’t even notice them. By highlighting some of these I hope to convey, to the extent I am capable, how he interpreted a chart and what he wanted his students to do as traders. Although written nearly a century ago, his words are every bit as relevant in today’s markets.

In time I hope to write similar commentaries on all of Gann’s courses and books. But for now I had to start somewhere, and I selected one of his earliest lessons, entitled Mechanical Stock Trading Method: Trading with the Overnight Chart. It was written in 1930 and is today published as part of the WD Gann Stock Market Course. I chose this one firstly because it was a course that Gann himself sold for traders new to his methodology, and secondly because it is full of gems of trading wisdom that would be largely missed without a chart.

You might ask how a book on a beginners’ lesson could be called How to Trade Like WD Gann? The answer is that the trades in this lesson, and there are over 300 of them, are the trades he thought people using his methods should take. We have very few examples of actual trades that Gann took, but he could not fail to put his imprint on these teachings.

Before getting into the lesson itself, I will give some background information to the man Gann himself, and look at the circumstances that led to the writing of the course.

Who Was W.D. Gann

William Delbert Gann was born on 6 June 1878 in Lufkin, Texas. He grew up on a farm and had a strong religious upbringing, which gave him a lifelong dedication to hard work. In 1949 his friend Clarence Kirven wrote ‘he is the only man I ever knew who I thought had worked as much as Mr. Thomas Edison.’

After working in a brokerage in Texarkana, he moved to New York City in 1903. He married twice and had four children: Nora, Macie, Velma and John. The eldest daughter, Nora, was said to have absorbed so much information from her father that many regarded her as a ‘Cotton clairvoyant’.3 She could predict whether the price of Cotton futures would be higher or lower with uncanny accuracy.

Gann worked over the next few years to perfect his system of forecasting markets. It was certainly not an easy road. He wrote that ‘in getting my experience, I have been broke over 40 times.’ But he never gave up, and his success in forecasting and trading began to be noticed.

In December 1909 an interview was published in The Ticker and Investment Digest in which Gann spoke about his discovery of a ‘law of vibration’ which governed the rise and fall in the value of stocks and commodities. For the rest of his life he not only traded for his own account but developed trading systems for others to use. He wrote several books, which he published himself, and a large number of courses which he taught privately to students.

His public forecasts were not limited to the stock market. In 1918 he forecast the date for the end of World War I and the abdication of Kaiser Wilhelm of Germany. He forecast the election of several US presidents, although not always correctly. In 1936 he predicted that Franklin D Roosevelt faced a heavy defeat, but instead he won in a landslide.

Perhaps his most famous forecast was published in November 1928 when he said that in September 1929 ‘one of the sharpest declines of the year is indicated. There will be loss of confidence by investors and the public will try to get out after it is too late…A “Black Friday” is indicated and a panicky decline in stocks with only small rallies…You should sell short and pyramid on the way down.’ To say that no one saw the Wall Street Crash coming is therefore not quite accurate.

In 1932 Gann became the first private American to own an aluminium plane, which he used to fly over crops. His pilot was the pioneering aviatrix Elinor Smith.

His son John worked in his business before joining the US Army in World War II. In 1943 Gann’s second wife, Sadie, died, and he married a third time. After the war John returned to the business briefly, but then left to start out in business on his own.

When Gann died in 1955 his estate showed that he left only a small sum of money. Since then there have been stories that he never made any money from trading but only from the sale of his books and courses. Rumours abound, including that Gann’s neighbour in Florida, an international lawyer, advised him to move his money overseas and set up a trust.

Perhaps we shall never know the full story. But anyone who has taken the trouble to study Gann’s writings, and who has seen the incredible accuracy of his techniques in the markets, has proof enough of the value of his work.

Gann’s Writings

In 1911 Gann wrote what he described as a ‘small book’, entitled Speculation A Profitable Profes­sion. Although this book does not appear to have survived, it was the beginning of a long writing career. Gann is almost unique in the long history of great traders in Wall Street in that he not only wrote extensively on his methods but also taught them to others. Since all his work was based on practical experience, there is a rich vein of knowledge for the dedicated student.

In 1923 he published his next book Truth of the Stock Tape. By this time he had been publishing Annual Forecasts for some years and had an extensive subscriber base for his trading advisory services. He stated at the end of that book that he was willing to teach his forecasting methods, and he wrote a course on forecasting the stock market around this time.

By 1930, when he published a follow-up volume entitled Wall Street Stock Selector, he wanted to be prepared for readers who would come to him for instruction. He prepared two courses. The first, which is the subject of this book, was a mechanical trading method. It was designed to teach people how to trade, without requiring much knowledge of market moves. The second he described as ‘a post-graduate course’, intended for students who had studied the rules in his books and wanted ‘to know how to forecast according to my Master Time Factor, and determine the years when stocks will have big advances and reach final tops and also the years and the cycles when panicky declines are indicated.’

The Mechanical Stock Trading Course

This lesson appears to have been originally completed on 7 June 1930, around the time that Wall Street Stock Selector was published. Gann updated it over the next several months, with the final addition made on 4 March 1931.

The first few pages contain instructions for drawing a swing chart, called by Gann the Overnight Chart. Then follow 9 Rules for trading the Method. The rest of the course consists of an application of these rules to trading US Steel, covering a period of 16 years. Buying and selling points are included, together with the placement of stops, as well as profit and loss calculations.

Because it would have been impossible in 1930 to produce 15 years of daily prices in chart form, Gann simply listed the important highs and lows in his text. While this is sufficient to illustrate his rules, it obscures a lot of information which only becomes apparent when the actual chart is viewed. This book contains charts covering all the trades, and this gives us the chance to observe many subtle signals as to how Gann traded certain patterns. Why did Gann find it necessary to illustrate his rules with over 15 years’ worth of trades? His stated reason was ‘to demonstrate that the Method will work over a long period of years and make money by reversing position every time and using stop loss orders and, at the same time, following the capital rule and not overtrading’. But with nearly 30 years of market experience himself, Gann could not help but fill these examples with indications of how he himself would have traded.

One such case occurs in Chapter 3 when US Steel approached $100 for the first time. There is nothing in the rules about this situation, but a careful consideration of the trades shows how Gann was reading the market. The lesson is full of examples like this, enabling a glimpse of the mind of this great trader.

I have tried to draw out this information as often as possible, but of course these are only my opinions. Every reader will have his or her own unique insight. There are many actions that Gann takes which at first sight appear difficult to comprehend, or to have been taken with the benefit of hindsight. My approach has been to treat everything as a deliberate move by Gann and to try to understand what he is trying to teach us, his students. However, you may come to a different conclusion. My aim is to place the material before you and to get you thinking.

I also discovered that the term ‘mechanical’ was used rather loosely by Gann. While he says in the instructions that ‘you must have machine-like action in order to succeed’ and to ‘use as little human judgement as possible’, his analysis of the actual trading examples reveals a lot that is the product of his years of experience in the markets.

Gann’s text unfolds as a continuous narrative, moving from long to short and back to long again. There is no discussion of bull and bear markets and only the occasional indication of a significant turning point. I have split the lesson up into the individual trades, of which there are 322. These are numbered sequentially for easier reference. With only a couple of exceptions, the exit price of one trade is automatically the entry price for the next. In other words, Gann continuously reverses position.

I have also broken the book up into chapters, with each chapter corresponding to a significant phase in the market, such as a bull or bear cycle or a sideways move. At the end of each section I have summarised that period and drawn some conclusions. While this is somewhat arbitrary, it does help to see the varying effectiveness of the system in different market conditions.

The charts accompanying the text generally cover more than one trade. To keep them readable the period of each chart is between 3 and 6 months, which enables the reader to see what the general direction of the market was at that time. The overnight chart has been drawn over the bar chart, as Gann instructed. This has been done manually, as the rules for drawing the swing chart are slightly different from what Gann taught in later courses, and thus from what is programmed into modern software. There may be errors, particularly around outside days, so feel free to use your own interpretation of the rules if you feel it appropriate.

The buy and sell points are marked on each chart. In order to keep the charts relatively clear, only important information such as a 50% retracement level or a previous significant high or low has been included. All the dates referred to by Gann are indicated. Occasionally there is a longer term chart to illustrate the position in the bigger picture.

In order to avoid turning pages back and forth to compare the text with the charts, I have provided a separate collection of every chart in an enlarged format. I encourage you to make as many notes as you like on these charts, so as to reinforce the learning.

Basics Required

It is assumed that the reader will already be familiar with the basics of the stock market and of technical analysis. The rules for swing chart construction are covered in the next chapter, since they are part of Gann’s lesson and contain some differences from the way many people draw swing charts today. Apart from that, I refer the reader to any of the excellent books, courses and training organisations that teach these basic elements.

The United States Steel Corporation

Gann chose US Steel as the stock to demonstrate his method. At the time of its incorpo­ration in 1901 it was the largest corporation in the world. In the early years of the 20th Century the stock captured the public’s imagination, and the story of its foundation even found its way into Napoleon Hill’s Think and Grow Rich, written over 30 years later.

Gann frequently used it for illustrations in his books and courses. He said, ‘I use U.S. Steel for an example in many cases, not because my theory or rules cannot be proved by other stocks, but because Steel is one of the best known stocks to the general public and they understand more about its movements.’

The rules in this lesson can be taken and applied to any market, and will work in commodities as well as stocks.

Gann’s Lesson

When Gann published Wall Street Stock Selector in June 1930 the carnage of the Great Crash of October 1929 was still very fresh in people’s memory. It had been followed by a rally from the low of November 1929, which petered out in April 1930. This was only a few months before Gann wrote up the later trades. There is thus some great insight to be gained into what he was thinking at the time.

Gann always brought his writings as up to date as possible and usually included the position of the market on the last day before it went to print. You can see that on 7 June 1930 he leaves the reader with the latest trade and the option of where to place the stop loss order.

He continued to update the lesson, until the text finally comes to a halt in early March 1931. This makes the last section particularly interesting, as it meant that Gann was writing about these trades as they were happening. You can see how he considered both options for the possible future direction of the market, up or down.

Student Testimonials

The following letter, from a student of this course, a Certified Public Accountant whose initials were ‘S.J.M.’, was printed by Gann in a Promotional Booklet that he issued in 19549:

…the Method, as you demonstrated it, is absolutely fool-proof. It requires simply the original capital as provided for by the Method, which is plainly stated in the rules, and thereafter to follow the simple instructions explicitly without any human-made deviations from the rules. If the user of this Method will only remember this one simple suggestion of mine, there is no question nor any doubt but that it will make money for the user.

…I bought the Method in 1930 and am using it with good results myself.

Another, from ‘C.K.’, who we might reasonably assume to be the same Clarence Kirven mentioned at the start of this chapter, says of Gann’s Method:

‘In my opinion, it is the only one with which one can make money in the market and keep it. If you will follow his method and the rules he lays down, you will also make a success and I can assure you without it you will make a failure.’10

A Note on Prices

Historical price data for the early 1900s is not readily available. After trying various sources without success, including the US Steel Corporation itself and the Archive section of the New York Stock Exchange, I accepted that I would have to collect the prices from the newspapers, where it was published daily. All prices and dates quoted in this book are from the New York Times. There are many cases where these differ from the ones Gann lists. This will undoubtedly cause some confusion when reading Gann’s original text. In terms of dates, the discrepancy is usually only a day or so, and the variance in prices is usually small, although there are a few glaring exceptions. I made the decision to stick with the New York Times data because that is what is on the charts. Hopefully the message will not be impaired.

In some cases there are typing errors in the original text, and I have made notes of these in the footnotes that accompany that booklet. Sometimes months are incorrectly named, but if you compare the text with the commentary and the charts, the correct dates and prices will be clear.

Also, there are times when Gann listed trades at prices which never occurred. This happened particularly on ex-dividend dates. The original lesson contained no charts, and Gann simply listed significant tops and bottoms in his text. Probably in order to keep things simple, all stops are simply recorded as being 1 point under swing bottoms. When the stop was caught, he said it was caught at that price.

However, there were times when the market gapped down because of the dividend, and hence never traded at Gann’s stated price. I assume that, as there were no charts, he did this deliberately in order to keep it straightforward for his readers.

On the charts I have marked the Buy or Sell points at the first available trade price, which would be the Open of the day. I have not altered any subsequent pyramids in the same trade, even though their price is based on the first entry price. I felt it would make things too complicated.

For an example of this, look at Chart 4.1. There is a gap down at the last bar on 1 February 1917. Gann quotes a price of 109½, which would be right in the middle of the gap. As you can see, the entry is marked as being at the open of that day.

The dividends are fairly easy to spot, as most of the large price gaps occurred on those days. At the time US Steel used to pay four dividends a year. Gann made no allowance for the impact of the dividends on trading or on the profits from the trades.

The other point on prices is the minimum fluctuation or tick size. In 1930 stocks did not trade in cents in the dollar as they do now. Rather there were 8 ticks to the dollar (which was commonly referred to as a ‘point’). Therefore, 1 tick would equal 12½ cents, or $0.125 and 1 point equals $1.00.

In Conclusion

I hope that this excursion into trading from 1915 to 1931 is both enjoyable and enlightening. It certainly has been for me. There are plenty of elements in this lesson that can be adopted into any trader’s trading plan. At the end of the book that will be your job.

The world has changed a lot in 80 years, but human nature has not, and Gann’s rules work as well in the markets of today as when he wrote about them all those years ago.

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EPILOGUE

The Challenge

This book is not intended to be read from beginning to end like a novel. It is a really a course book that should start the reader on a process. In fact, it is at this point that the real book begins, which is the one you will write about your own trading. The value of Gann’s lesson lies in what can be drawn out of it that is practical and effective. This is going to be different for each person, because every trader is different.

During the preparation of the book people would ask whether there would be current market examples showing the application of Gann’s rules. The answer was always no, because this book does not attempt to teach a trading system. Rather it attempts to give the reader an insight into what Gann was doing and thinking when he taught people how to trade. How each trader applies this knowledge to the markets is always going to be an individual decision. Starting you on that process is the subject of this final chapter.

The first task is to study and re-study Gann’s trades until they have become part of you. This will take time, because his thinking has to seep into yours, and this is a gradual process. Select some individual sections that seem relevant to you. For example, if a market you are following is in the midst of a bull run, study a similar section and see how Gann read the market action. It will mean more to you because you are seeing it currently. Compare how Gann trades similar sections at different times – for example, the start of the 1915 and 1921 bull markets. Let your intuition guide you to the section that will teach you the most.

Treat the trades as stated by Gann as an idealised scenario. It is highly unlikely that any two traders, following this market in real time, would take exactly the same trades. Gann is really telling us how this market should have been traded according to these rules. That is what we are trying to absorb.

Then find a current market and test what you are learning in paper trading. Do this process concurrently with your study of Gann. Remember that nearly 30 years of trading experience went into what he wrote. But be prepared to adapt when you find differences in your market. A stock or commodity is a living, breathing entity, and you need to be in tune with its movements in order to trade it successfully. Gann’s system will give you a skeleton, but you will need to flesh it out. However, you may be surprised how well his rules stand up nearly 100 years after the original was written.

Most readers of this book would already be trading, and would have rules and techniques which they have found to work through experience. Therefore, the value in this book will be in gaining additional strategies which can be added to your existing Trading Plan. There is no need to abandon what works for you just because Gann’s rules are different.

Conclusion

This book started out as a personal study. A desire to understand what Gann was doing led to the long task of collecting the price data from old newspapers and drawing up charts by hand. But as this unfolded, the wealth of trading experience hidden in the seemingly innocuous statements of highs and lows and trade entries and exits began to be revealed. Putting something down in writing always forces more detailed analysis and leads to greater understanding. And so a book started to take shape.

In the course of writing about these trades, many had to be completely rewritten because a fresh look at the charts provided a new understanding of what he was doing. No doubt this process will continue after the book is published, and you should not regard it as a final word on the subject simply because it is in print. You will gain many insights of your own which may be more accurate than what you read here.

Hopefully this book will encourage you to study Gann’s work more closely. It is not a substitute for his original lesson but more of a commentary on it, designed to draw out the important points as they appear to me. You can’t ever beat going back to the original source material in any field of study or research.

No other great trader wrote anywhere near the volume of material that Gann did. Most wrote nothing. Livermore, one of the greatest traders of all time, wrote one very short book at the end of his life, and it contained only limited information on what he actually did. Other books were written by academics or people who didn’t trade what they taught.

Amongst all of these men, WD Gann was unique. He invented many of the techniques of technical analysis that are accepted everywhere today, such as using percentages of ranges as resist­ance levels. While he didn’t invent swing charts, he did invent swing trading, and spent many years developing a system that he could teach to beginners, as he did in this lesson.

Repeated readings of his work will get you about as close as you can to sitting in a class room with such a great trader. You will start to absorb his mind, and in time you will be able to replicate what he has done here in your own trading, and perhaps even better it. If I can motivate others to do this and make Gann’s material more accessible I will have achieved my aim.

Timothy Walker

 

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