The Dow Report: A Quick Dow Theory Review
By Tim W Wood CPA, July 2, 2004
I know that most, including myself, are growing increasingly frustrated with the recent price action seen in the stock market. At times like this I find it necessary to review the technical facts. So, let's take a look from the Dow theory perspective. First, we remain under the Dow theory sell signal, which was triggered on March 10, 2004. Then in May things became a little more uncertain. As you can see from the chart below the Industrials moved below their March low in May while the Transports held above their March low. This set up a non-confirmation at this low and set the stage for the rally out of the May low. The problem from the Dow theory perspective is that the Transports have now moved above their January high, but the Industrials have lagged. This has in turn set up another non-confirmation.
If we turn to the work of the great Dow theorist, Robert Rhea, he says, "Whenever one average pushes above a previous high and the other indicator refuses to take the hurdle, the market is reflecting uncertainty"... Rhea also stated that when the averages were not "in gear" or "when the averages disagree, they are shouting be careful."
I know that most people are very skeptical of the bearish case. This is completely understandable because of the duration of the bear market rally. This rally has served to suck the bulls in and even served to neuter most bears, sucking them right in as well. We have seen sentiment readings at levels not seen since 1987, so this makes perfect sense. Most technicians have complained about how their system or indicators have not worked. This has served to discredit them and even cause many to question or abandon their own work.
I find that times like the present require not only an understanding of technical analysis, but also an understanding of market history and particularly Dow theory history. When I remove the emotion and study the basics that are outlined in the writings of the great Dow theorist, Robert Rhea, I have absolutely no doubt what the market averages are currently telling me. Robert Rhea once wrote that the markets require "infinite patience" and that "at such times impatient students of the averages become disgusted with Dow's theory of price movements because the averages will not plot the upward pattern which they so eagerly desire." In our current case this market is very dangerous to both the bulls and the bears. Understand that the bear's job is to keep as many bulls in as long as he can while also preventing the bears from recognizing the true dangers. Make no mistake about it. This market is dangerous.
Tim W. Wood
© 2004 Tim Wood