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Posts tagged ‘Dow Theory’

Wealthbuilder Market Brief 1st March 2013 (Christopher Quigley)

By: Christopher Quigley

What a market. Even the most experienced traders  that I know are having a difficult time getting a handle on what is happening.  Wednesday’s market action caught a lot of folk napping. Monday’s 216 point drop in the Dow Industrials  convinced many that finally the much anticipated market “correction” had  arrived.

The slight “uptick” on Tuesday was a classic VIX buy  signal but it turned out to be a trap. Those traders who shorted the market on  the 26th were pulverized by the bullish 175 Dow point move on the 27th.

What can we make of such whiplash moves?

For me, regardless of the economy, the movement of  the market is understandable when you assess it through the paradigm of Dow  Theory. The market is powering forward because technically it is very strong.  This strength was first indicated by the 128 point breakout in the Dow  Transports on the second of January. Prior to this the Dow 20 had traded within  a trading line for nearly a year. It was perfectly clear to Dow Theory  aficionados that the momentum and the direction of any breakout from this “range  line” would be highly significant. The 307 point follow through move on the Dow  Industrials on the same day as the Trannies breakout confirmed the trend. With  Dow Theory  “ a trend once in place  continues until both indices confirm otherwise”. Nothing has happened in the  last few days to alter this January bull move. Thus the correct trading  strategy at the moment is to go long on pullbacks not short “potential” tops.

full report Wealthbuilder Market Brief 1st March 2013

Market Brief 20th. May 2011 from Wealthbuilder.ie

Wealthbuilder.ie

Our friends over at Wealth builder have sent in their latest market outlook

Thanks!

The volatility which was predicted in the last quarterly brief continues apace with the markets continuing to climb a “wall of worry” as is typical.

 On the basis of Dow Theory, the bull run is still in place with the Dow Transports indicating that new highs are anticipated.

 Technology is going through a tricky phase. This market is patchy due to the fact that there are some specific stellar winners and many definite losers. The dynamics involved in tech product development, cloud computing, social networking fads and web marketing strategy are so rapid that “old” business models quickly become stressed and dated.  Momentum demands exceptional growth. So one must do ones research well before investing in this arena. Apple (APPL), Netflix (NFLX) and Baidu (BIDU) are all looking very strong with management well up on their game. As always we recommend that you invest only on supported pullbacks.

 The big story at the moment of course is the collapse of commodity prices. This is good for the overall market in that oil and food price appreciation will hopefully be tamed somewhat. This will have a bearing on core inflation and the future ability of the FED to keep interest rates low. As long as this supportive policy is held in place the market should maintain its bullish stance. (An indication of a change in sentiment in the market will be indicated when the 20 DMA on the Advance -Decline line in the broad market averages starts collapsing below the 50 DMA and fails to recover).

 Our favourite commodity instrument, the Silver Ultra ETF: AGQ, was up nearly 100% since March. Its break below the previous low of 318.44 on the 2nd. May indicated it was a sell.  Currently Silver is technically broken so it will be some time before we can be sure the worst is over. Thus I would recommend you save your profits and keep your powder dry until solid technical support is in evidence.

 The social situation in Europe continues to spiral downward.  Here in Ireland economic conditions continue to deteriorate with little help being granted by Germany or France to the Irish government’s attempts to lighten its EU/IMF bailout conditions.

Greece cannot meet its rescue terms and is being given “more time” which is a default in any normal mans language. Of course it cannot be “officially” named as such given that this would kick in the credit default swap insurance militia and nobody wants to give them a free lunch, if at all possible. A recent Vanity Fair article opened the lid on the rampant corruption in Athens and it is hard to see how Greece was ever allowed to join the Euro when it was common knowledge that its taxation system was such a complete corrupt mess.

 Most interestingly the Madrid “sit down movement” is bringing a new dynamic into the Euro equation. Spanish youth have finally had enough. With 40% of under 30’s unemployed they want a change. They are educated, eager and ambitious and they do not wish to continue to live, with no income or future, in the homes of their aging parents. Should this movement adversely affect an already fragile Spanish banking complex it may bring Madrid one step closer to needing IMF assistance. That could be a potential Euro endgame.

  The one winner in all of this is Germany. It continues to benefit from the Euro arrangement in that it has access to a vast European market for its industrial produce yet benefits from a fixed Euro currency. However Berlin refuses to accept any responsibility for the “lite touch regulation” it allowed to develop at the European Central Bank. It would appear Germans are happy with representation without taxation. Under these circumstances it is hard to see how the Euro will survive over the next decade. Yes, on paper, the cracks can be glossed over and the can kicked down the road but at the end of the day Europe is not only an economy it is a society. Currently its social contract based on dignity, freedom, equality, solidarity, citizen’s rights and justice is crumbling and it would appear that Brussels, as of yet, does not “get it”. The original vision of the great men who founded the E.E.C. is being destroyed by short-sighted bankers, technocrats and bureaucrats. These mandarins are playing with fire. Monnet, Schumann and Gaspari would be ashamed of them.

Dow Transports: Weekly

Apple: Weekly

 Netflix: Weekly

 Baidu: Weekly

AGQ: Daily

Stock Market Warning Signs

By: Toby_Connor

We are now fast approaching the period when the next crisis should arrive.

On average the stock market suffers a major correction about every four years. In a secular bear market that cyclical trough arrives as the economy sinks into recession and a stock market bear bottoms out.

The last four year cycle bottom formed in March of ’09. That just happened to be the longest four year cycle in history. I’ve noted before that long cycles are often followed by a short cycle that compensates for the extended nature or the prior cycle. If that’s the case then the next four year cycle low is due sometime in 2012. (My best guess is in the fall.)

As we are still in a secular bear market then the move down into the four year cycle trough should correspond to another economic recession and cyclical bear market for stocks. Bear markets tend to last about a year and a half to two and a half years. If the next four year cycle bottoms in the implied timing band then the current cyclical bull should be topping soon.

As a matter of fact the stock market is already flashing warning signs. Three of the largest and most important sectors in the S&P have not confirmed new highs.

Another warning sign; Despite record earnings the market has only been able to move to marginal new highs and is now in jeopardy of reversing the recent breakout.

I’ve noted in the past that this is how major tops and bottoms are often established. Smart money sells into the breakout, or buys the break down in the case of a bottom. The trend then reverses and a major turning point is formed. Both the ’02 bottom and the ’07 top were put in this way.

The market is now at risk of a similar event as we’ve experienced a marginal breakout to new highs that is threatening to fail. Don’t forget this is happening against a back drop of record earnings.

When a market can’t move higher on good news something is wrong. And don’t forget bull markets don’t top on bad news, they top on good news.

If the market can recover and move to new highs the cyclical bull will be confirmed, but if the market continues to fade and drops back below the March 16th “tsunami” bottom it will constitute a failed intermediate cycle. If both the Dow and the Transports close back below that level we would have a Dow Theory sell signal and that would confirm the next leg down in the secular bear has begun.

It would also be a signal that the economy was unable to handle the spiking food and energy costs that were the direct result of Bernanke trying to prop up the financial system with his printing press. Like I said, printing money has never been the answer. Every empire in history has tried this approach and not one of them has ever succeeded with it. We won’t either.

full article at source:http://www.marketoracle.co.uk/Article28156.html

Dow Theory Update and Values

Submitted
 
 by Tim W Wood CPA on Fri, 28 Jan 2011

At present, we have a Dow theory non-confirmation in place that began in mid-January. According to Dow theory, we must operate under the assumption that the previously established trend is still intact until it is reversed with a move above or below the previous secondary high or low point. In this case, a downside trend reversal would require a move below the previous secondary low point. Until such time, the primary trend change that occurred in conjunction with the March 2009 low still remains intact. Now, as for non-confirmations, they serve as warnings of a possible trend change. Non-confirmations do not mean that a trend change is inevitable, because it is possible that the non-confirmation can be corrected. It is also possible that the previous secondary high or low point will not be penetrated. The current non-confirmation can be seen on the chart below. If this non-confirmation is not corrected then I know from my trend quantification work that there are statistical guides that can be used to help us gauge the meaning of this non-confirmation as well as the expected outcome. I will cover that all in the research letters and updates if it continues to develop. For now, this is a warning that must simply be watched and measured against the statistical and other implications. Don’t confuse non-confirmations to automatically be a “sell signal” because in accordance with Dow theory, that is a misconception. There is much more to the story that just a non-confirmation. Rather, it is a process in which statistical and other structural evidence must be understood, weighed and considered.

djia-djta-1-28 

In the last post here on January 14th I talked about bull and bear market relationships. In that post I explained some of the big picture reasons that the rally out of the March 2009 low must still be viewed as a longer-term bear market rally. One of the items that I did not cover there was value. Value is another historical marker of secular bear markets. Historically, the dividend yield will be roughly equal to the price earnings ratio at secular bear market bottoms. I have used the S&P data here because I did not have this data as far back on the Industrials. At the 1932 bear market bottom the yield was 10.50% and the P/E was just under 10. At the 1942 bear market bottom the yield was 8.71% and the P/E was 7.3. At the next great bear market bottom in 1974 the yield was 5.9% and with a P/E of 7.24. If we take this same reading at the 1982 low the yield was 6.2% and the P/E was 6.9. For the record, these P/E ratios are based on Generally Accepted Accounting Principles and not the bogus George Orwellian methods of today. At the 2009 low, the P/E was 26 with a dividend yield of 3.2, which is hardly at par. Therefore, based on this historical measure, there is also no indication that the 2009 low marked the bear market bottom. It is for this reason along with the historical bull and bear market relationship issues covered in the last post here that I continue to believe the rally out of the March 2009 low is a longer-term bear market rally much like was seen between 1966 and 1974. I have also included a chart of that period below.

  djia-djta-cycles-1-28

I told my subscribers before the anticipated rally out of the 2009 low even began that it would be a rally of a higher degree and that the longer it lasted the more dangerous it would become. What I meant was, the longer this rally lasts, the more convinced people will become that the bear market bottom has been seen. In looking at this chart of the 1966 to 1974 period above, don’t you think that it would have been pretty convincing that the worst was over as the market moved up during the 26 month rally into the 1968 high? As is the case now, it was the Dow theory phasing, bull and bear market relationships and values that warned of the pending phase II decline that finally did follow and that carried the market down to another new bear market low. But, then came the rally separating phase II from phase III. In this case it was a 32 month rally. Stop and think about it. After another leg down into the 1970 low don’t you think it would have been an even harder sell to convince people that the low had not been seen? Yet, Dow theory phasing, bull and bear market relationships and values warned that the bottom had not been seen and once again they proved correct. In January 1973 the Industrials turned back down and plunged to yet another new bear market low in December of 1974. It was then, only weeks after that low was made, that Richard Russell was able to identify the bear market bottom and he did so because he understood Dow theory. Based on the bull and bear market relationships, we should be operating within a little larger version of the 1966 to 1974 bear market period. I realize that this is probably a hard concept for most to understand. But, if we stand back and look at the historical relationships we see that this bear market has likely not run its course. I have found specific DNA Markers that have occurred at all major tops since 1896 and it is these markers that can be used to identify the top of this counter-trend bear market advance. I sincerely hope that people are listening and that they understand the context in which this rally is unfolding.

source: http://www.financialsense.com/contributors/tim-wood/dow-theory-update-and-values

Wealthbuilder.ie Market Brief Jan 2011

15th. January 2011

By Christopher Quigley

There can be no true recovery in the American stock market without a recovery in   real estate. The property companies that I follow are all showing signs of solid strength and momentum.

This significant development indicates that the bull trend that commenced in March 2009, though in overbought territory at the moment and due a correction, is still very much in place.

Accordingly we will probably see the former highs in the Dow 30, Dow 20, NASDAQ 100 and S & P 5600 tested this year and on balance theses former key technical points will be breached. Thus nearly two years after the move initially commenced a formal Dow Theory “New Bull Market Buy Signal” can finally be announced to the world.

Market Brief

Wealthbuilder.ie

22nd. October 2010

 Getting Some Perspective

From a Dow Theory point of view this is the situation as I see it. The market is giving very strong signals particularly on the Transports side. My key break point is 5265 to give the first indication that the new Bull Run has commenced. We are currently at 4735. Near but not quite there. My key break point on the Dow Industrials is 13566. WE are currently at 11146 some 2420 points away.

 From a purely momentum perspective if the current positions on the Dow Transports and the Dow Industrials are solidly broken up through, even though the market is very overbought (based on fast and slow stochastics and the McClennan Summation index) it will very bullish short term. This situation is corroborated by price action on the NASDAQ and the S & P.

 As we are currently down the line on a fairly positive earnings season and it is understandable that when it ends there should be a correction, but if it proves to be mild it will offer an excellent buying opportunity to participate in your favourite value and momentum targets.

  Dow Transports: Weekly

 

 

Dow Jones Transport Index


History of the Dow Jones Transports Index


The Dow Jones Industrial Average is the best-known U.S. stock index, but not the oldest. The Dow Jones Transportation Average has that honor.

The first Dow Jones stock index, assembled in 1884 by Charles H. Dow, co-founder of Dow Jones & Company, was composed of nine railroads, including the New York Central and Union Pacific, and two non-rails, Pacific Mail Steamship and Western Union. That was the ancestor of today’s transportation average.

The iron horse powered the U.S. economy in the late 19th century. “The really strong companies at that time were primarily railroads,” says Richard Stillman, professor emeritus of the University of New Orleans.

It wasn’t until 1896 that the Dow Jones Industrial Average appeared. The same year, Mr. Dow published a list of 20 “active” stocks, 18 of which were rails-the direct predecessor of the transportation average. On Sept. 8, 1896, it stood at 48.55.

Over the years, railroads such as Union Pacific (the only remaining original stock) have been joined in the average by the likes of Delta Air Lines, Federal Express and Ryder System.

The story of the rails in this century is one of pride, fall and partial revival. In 1916, 254,000 miles of rail lines crisscrossed the country, nearly twice the current figure. But regulation of prices and “featherbedding” by unions stunted railroads, says Richard Sylla, an economic historian at New York University. The stagnant industry was pounded by competition from trucks, revitalized waterways and, finally, airplanes.

According to Professor Sylla, the Pennsylvania Railroad was the country’s biggest corporation in the 1870s. A century later, its descendant, Penn Central, filed for bankruptcy.

Since 1980, deregulation has brought a revival of sorts. Railroad employment has fallen nearly 60 percent, but ton-miles shipped and the industry’s net income have soared.

Dow Theory

An elaborate analytical system dubbed Dow Theory (so named by people who followed Mr. Dow, but not by Mr. Dow himself) holds that the Dow Jones Transportation Average must “confirm” the movement of the industrial average for a market trend to have staying power. If the industrials reach a new high, the transports would need to reach a new high to “confirm” the broad trend. The trend reverses when both averages experience sharp downturns at around the same time. If they diverge for example, if the industrial average keeps climbing while the transports decline watch out!

The underlying fundamentals of the theory hold that the industrials make and the transports take. If the transports aren’t taking what the industrials are making, it portends economic weakness and market problems, Dow Theorists maintain.

For more information  you might like to look in on  www.wealthbuilder.ie

Attached is the latest information on the US ecomomy

Rail+Time+Indicators+May+2010 PDF

Rail Time Indicators is a non-technical summary of many of the key economic indicators

potentially of interest to U.S. freight railroads. It is issued monthly free of charge by the

Policy and Economics Department of the Association of American Railroads

Successful Day Trading Brief

My thanks to Christopher for his latest contribution

as a Trader myself I think this article is a must read and amply covers the dangerous pitfalls lurking inside every trade, a day trader makes.

 Day trading is not the answer to all your financial troubles , but with a good professional guide it could become a gateway to your own financial independence.

I have personally traded the markets now for 10 years and it is only in the last 3 years that I have begun to make money consistently and this is all down to sticking to the rules

Without effort and investment in learning, most of you will lose your money

It makes sense before you dip your toe into something you know nothing about ,you learn something about it first! 

 makes sense to do so?

 

 

Successful Day Trading Brief

Christopher M. Quigley

B.Sc., M.M.I.I. Grad., M.A.

 

Judging from the contents of an increasing number of emails more and more investors are choosing to “actively” trade the market rather than simply “buy and hold” it. In the main, this is due to the fact that in a bear market the latter strategy creates losses that are difficult to accept long term. However another reason is that with limited business opportunity available investors are seeking “income” rather than capital gain from their investments.

Accordingly I set out below some parameters to help these new “traders” avoid the worse pitfalls and hopefully guide them towards the mindset required for long term success.

(This article has some notes from earlier publications for ease of reference).

1.    Start. Markets are rational. The best theory to gain this insight is Dow Theory (see note 1). Learn everything you can about Hamilton’s and Dow’s perceptions and make it part of your investment “macro-view”.

2.    Due to the growing complexity in financial reporting and the opportunity for abuse therein, with its concomitant risk, it may be advisable to trade through exchange traded funds (ETF’) or Contracts for Difference (CFD’s). These funds trade like stocks but offer exposure to equity sectors, commodities, currencies and interest rates. Thus you have better opportunity for diversification with less risk. (If you do not understand CFD’s see note 2 below).

3.    When you enter a position know beforehand your exit point. Always place a sell stop thus limiting your potential loss.

4.    As your profits rise adjust your sell stop upwards thus locking in your profits.

5.    A trading platform offering discount commissions is absolutely vital.

6.    Technical analysis data is vital to judge your entry and exit points. Get a good system that offers “real time” streaming providing one minute, five minute, ten minute and one hour ticker readings in addition to the regular daily timelines. I prefer the five minute screen for active day trading.

7.    Using too many technical indicators creates “paralysis by analysis”. Get to know the indicators that work for you and stick to them. Consistency will bring greater reward. I like MACD (moving average convergence divergence, 10 and 20 DMA’s (daily moving averages) and purchase volume. For price I use the candlestick format rather than the simple line as it gives more information on the market psychology of actual price movement. (See note 3 below).

8.     You must adopt a trading strategy. If you do not have one find one. If you are new to trading use the many simulation packages available online to test and retest your knowledge and approach. Do not start to spend a major part of your capital until you have proven to yourself that you can consistently make good investment decisions in real time. It is better to be losing time rather than time and money. For me the best strategy to successfully day trade is a Momentum Strategy. This strategy highlights only top Growth Stocks with high Price Earnings Ratios. A good BUY indicator is a BULLISH ENGULFING candlestick moving up through a significant DMA on high volume. ideally with a MACD changing from negative to positive. A good SELL indicator is a BEARISH ENGULFING candlestick moving down through a significant DMA, ideally with MACD moving from positive to negative.

9.    The holy grail of trading is patience. If you do not have a trade that has a good

probability to work profitably for you the best place to be is in cash. This is hard to learn but is

absolutely essential.

 

10.     If you think trading is gambling you have missed the point and need to be re-educated. Go back to start and get your thinking rational.

 

Note 1:

Dow Theory

The Dow theory has been around for almost 100 years. Developed by Charles Dow and refined by William Hamilton, many of the ideas put forward by these two men have become axioms of Wall Street.

Background:

Charles Dow developed the Dow theory from his analysis of market price action in the late 19th. Century. Until his death in 1902, Dow was part owner as well as editor of the Wall Street Journal. Even though Charles Dow is credited with initiating Dow theory, it was S.A. Nelson and William Hamilton who later refined the theory into what it is today. In 1932 Robert Rhea further refined the analysis. Rhea studied and deciphered some 252 editorials through which Dow and Hamilton conveyed their thoughts on the market.

Main Assumptions:

1.    Manipulation of the primary trend as not being possible is the primary assumption of the Dow theory. Hamilton also believed that while individual stocks could be influenced it would be virtually impossible to manipulate the market as a whole.

2.    Averages discount everything. This assumption means that the markets reflect all known information. Everything there is to know is already reflected in the markets through price. Price represents the sum total of all the hopes, fears and expectations of all participants. The un-expected will occur, but usually this will affect the short-term trend. The primary trend will remain unaffected. Hamilton noted that sometimes the market would react negatively to good news. For Hamilton the reason was simple: the markets look ahead, this explains the old Wall Street axiom “buy on the rumour and sell on the news”.

Even though the Dow Theory is not meant for short-term trading, it can still add value for traders. Thus no matter what your time frame, it always helps to be able to identify the primary trend. According to Hamilton those who successfully applied the Dow Theory rarely traded on too regular a basis. Hamilton and Dow were not concerned with the risks involved in getting exact tops and bottoms. Their main concern was catching large moves. They advised the close study of the markets on a daily basis, but they also sought to minimise the effects of random movements and recommended concentration on the primary trend.    

Price Movement:

Dow and Hamilton identified three types of price movement for the Dow Jones Industrial and Rail averages:

A.    Primary movements

B.    Secondary movements

C.    Daily fluctuations

A.    Primary moves last from a few months to many years and represent the broad underlying trend of the market.

B.    Secondary or reaction movements last for a few weeks to many months and move counter to the primary trend.

C.    Daily fluctuations can move with or against the primary trend and last from a few hours to a few days, but usually not more than a week.

Primary movements, as mentioned, represent the broad underlying trend. These actions are typically referred to as BULL or BEAR trends. Bull means buying or positive trends and Bear means negative or selling trends. Once the primary trend has been identified, it will remain in effect until proven otherwise. Hamilton believed that the length and the duration of the trend were largely undeterminable. Many traders and investors get hung up on price and time targets. The reality of the situation is that nobody knows where and when the primary trend will end.

The objective of Dow Theory is to utilize what we do know, not to haphazardly guess about what we do not. Through a set of guidelines. Dow Theory enables investors to identify the primary trend and invest accordingly. Trying to predict the length and duration of the trend is an exercise in futility. Success according to Hamilton and Dow is measured by the ability to identify the primary trend and stay with it.

Secondary movements run counter to the primary trend and are reactionary in nature. In a bull market a secondary move is considered a correction. In a bear market, secondary moves are sometimes called reaction rallies. Hamilton characterized secondary moves as a necessary phenomenon to combat excessive speculation. Corrections and counter moves kept speculators in check and added a healthy dose of guess work to market movements. Because of their complexity and deceptive nature,

secondary movements require extra careful study and analysis. He discovered investors often mistake a secondary move as the beginning of a new primary trend.

Daily fluctuations, while important when viewed as a group, can be dangerous and unreliable individually. getting too caught up in the movement of one or two days can lead to hasty decisions that are based on emotion. To invest successfully it is vitally important to keep the whole picture in mind when analysing daily price movements. In general they agreed the study of daily price action can add valuable insight, but only when taken in greater context.

The Three Stages of Primary Bull Markets and Primary Bear Markets.

Hamilton identified three stages to both primary bull and primary bear markets. The stages relate as much to the psychological state of the market as to the movement of prices.

Primary Bull Market

Stage 1.    Accumulation

Hamilton noted that the first stage of a bull market was largely indistinguishable from the last reaction rally in a bear market. Pessimism, which was excessive at the end of the bear market, still reigns at the beginning of a bull market. In the first stage of a bull market, stocks begin to find a bottom and quietly firm up. After the first leg peaks and starts to head down, the bears come out proclaiming that the bear market is not over. It is at this stage that careful analysis is warranted to determine if the decline is a secondary movement. If is a secondary move, then the low forms above the previous low, a quiet period will ensue as the market firms and then an advance will begin. When the previous peak is surpassed, the beginning of the second leg and a primary bull will be confirmed.

Stage 2.    Movement With Strength

The second stage of a primary bull market is usually the longest, and sees the largest advance in prices. It is a period marked by improving business conditions and increased valuations in stocks. This is considered the easiest stage to make profit as participation is broad and the trend followers begin to participate.

Stage 3.    Excess

Marked by excess speculation and the appearance of inflationary pressures. During the third and final stage, the public is fully involved in the market, valuations are excessive and confidence is extraordinarily high.    

 

Primary Bear Market

Stage 1.    Distribution

Just as accumulation is the hallmark of the first stage of a primary bull market, distribution marks the beginning of a bear market. As the “smart money” begins to realise that business conditions are not quite as good as once thought, and thus they begin to sell stock. There is little in the headlines to indicate a bear market is at hand and general business conditions remain good. However stocks begin to lose their lustre and the decline begins to take hand. After a moderate decline, there is a reaction rally that retraces a portion of the decline. Hamilton noted that reaction rallies during a bear market were quite swift and sharp. This quick and sudden movement would invigorate the bulls to proclaim the bull market alive and well. However the reaction high of the secondary move would form and be lower than the previous high. After making a lower high, a break below the previous low, would confirm that this was the second stage of a bear market.

Stage 2.    Movement With Strength

As with the primary bull market stage two of a primary bear market provides the largest move. This is when the trend has been identified as down and business conditions begin to deteriorate. Earnings estimates are reduced, shortfalls occur, profit margins shrink and revenues fall.

Stage 3.    Despair

At the final stage of a bear market all hope is lost and stocks are frowned upon. Valuations are low, but the selling continues as participants seek to sell no matter what. The news from corporate America is bad, the economic outlook is bleak and no buyers are to be found. The market will continue to decline until all the bad news is fully priced into the stocks. Once stocks fully reflect the worst possible outcome, the cycle begins again.

Signals:

A.    Identification Of The Trend

The first step in the identifying the primary trend is to analyse the individual trend of the Dow Jones Industrial Average and the Dow Jones Transport Average. Hamilton used peak and trough analysis to ascertain the identity of the trend. An uptrend is defined by prices that form a series of rising peaks and rising troughs [higher highs and higher lows]. In contrast, a downtrend is defined by prices that form a series of declining peaks and declining troughs [lower highs and lower lows].

Once the trend has been identified, it is assumed valid until proven otherwise. A downtrend is considered valid until a higher low forms and the ensuing advance off the higher low surpasses the previous reaction high. Conversely, an uptrend is considered in place until a lower low forms.

B.    Averages Must Confirm

Hamilton and Dow stressed that for a primary trend or sell signal to be valid, both the Dow Jones Industrial and The Transport averages must confirm each other. For example if one average records a new high or new low, then the other must soon follow for a Dow theory signal to be considered valid.

C.    Volume

Though Hamilton did analyse statistics, price action was the ultimate determinant. Volume is more important when confirming the strength of advances and can also help to identify potential reversals. Hamilton thought that volume should increase in the direction of the primary trend. For example in a primary bull market, volume should be heavier on advances than during corrections. The opposite is true in a primary bear market. Volume should increase on the declines and decrease during the reaction rallies. Thus by analysing the reaction rallies and corrections, it is possible to judge the underlying strength of the primary trend.

D.    Trading Ranges

In his commentaries over the years, Hamilton referred many times to “lines”. Lines are horizontal lines that form trading ranges. Trading ranges develop when the averages move sideways over a period of time and make it possible to draw horizontal lines connecting the tops and the bottoms. These trading ranges indicate either accumulation or distribution, but are virtually impossible to tell which until there was a clear break to the upside or the downside.

Conclusion

The goal of Dow and Hamilton was to identify the primary trend and catch the big moves up and be out of the market the rest of the time. They well understood that the market was influenced by emotion and prone to over-reaction, both up and down. With this in mind, they concentrated on identification and following the trend.

Dow theory [or set of assumptions] helps investors identify facts. It can form an excellent basis for analysis and has become the cornerstone for many professional traders in understanding market movement. Hamilton and Dow believed that success in the markets required serious study and analysis. They realised that success was a great thing, but also realised that failure, while painful, should be looked upon as learning experiences. Technical analysis is an art form and the eye and mind grow keener with practice. Study both success and failure with an eye to the future.

Note 2:

Contracts for Difference

ONE of the most innovative financial instruments that have developed over the last decade or so is the CONTRACT FOR DIFFENCE, better known as a CFD. The explosion in the use of this product is one of the reasons why London, as opposed to New York, is becoming the financial location of preference for many financial managers and hedge traders. CFD’s are not allowed in the U.S. due to legal restrictions imposed by the American Regulators.

Contracts for Difference were developed in London in the early 1990’s. The innovation is accredited to Mr. Brian Keelan and Mr. Jon Wood of UBS Warburg. They were then initially used by institutional investors and hedge funds to limit their exposure to volatility on the London Stock Exchange in a cost-effective way, for in addition to being traded on margin, they helped avoid stamp duty (a government tax on purchase and sale of securities).

A CFD is in essence a contract between two parties agreeing that the buyer will be paid by the seller the difference between the contract value of the underlying equity and its value at time of contract. This means that traders and investors can participate in the gains and losses (if shorting) of the market for a fraction of capital exposed if the equity was purchased outright. In This regard the CDS’s operate like option contracts, but unlike calls and puts, there are no fixed expiration dates and contract amounts. However contract values are normally subject to interest and commission charges. For this reason they are not really suitable to investors with a long-term buy and hold strategies. 

CFd’s allow traders to invest long or short using margin. This fixed margin is usually about 5-10% of the value of the underlying financial instrument. Once the contract is purchased there is a variable adjustment in the value of the clients account based on the “marked to market” valuation process that happens in real time when the market is open. Thus for example if a stock ABC Inc. is trading at $100 it would cost approx. $10 to trade a CFD in ABC. If 1000 units were traded

it would therefore cost the investor $10,000 to “control” $100,000 worth of stock. If the stock increased in value to $110 the “marked to market” process would add $10,000 to the client’s account (110-100 by 1000). As we can see the situation works very similarly to options but for the fact that there are no standard option contract sizes and expiration dates and complicated strike levels. Their simplicity has added greatly to their popular appeal amount the retail public.

Contracts For Difference are currently available in over the counter markets in Sweden, Spain, France, Canada, New Zealand, Australia, South Africa, Australia, Singapore, Switzerland, Italy, Germany and the United Kingdom. Their power and scope continue to grow. This development poses a problem to American financial institutions in that unless there is a change in security regulation Wall Street will lose out on a financial instrument that is changing the manner in which the greater public and aggressive financial managers are investing for the future. It is expected that Contracts for Difference will become the medium of transaction for the majority of World traders within the next decade.

Note 3:

Moving Average Convergence Divergence (MACD)

 Developed by Gerald Appel, MACD is one of the simplest and most reliable indicators available. MACD uses moving averages, which are lagging indicators, to include some trend following characteristics. These lagging indicators are turned into a momentum oscillator by subtracting the longer moving average from the shorter moving average. The resulting plot forms a line that oscillates above and below zero.

The most popular formula for the standard MACD is the difference between a stock’s 26-day and 12-day exponential moving averages. However Appel and others have since tinkered with these original settings to come up with a MACD that is better suited for faster or slower securities. Using shorter moving averages will produce a quicker, more responsive indicator, while using longer averages will produce a slower indicator.

What does MACD do?
MACD measures the difference between two moving averages. A positive MACD indicates that the 12-day EMA (exponential moving average) is trading above the 26-day EMA. A negative MACD indicates that the 12-day EMA is trading below the 26-EMA. If MACD is positive and rising, then the gap between the 12-day EMA and the 26-day EMA is widening. This indicates that the rate-of-change of the faster moving average is higher than the rate-of-change for the slower moving average. Positive momentum is increasing and this would be considered bullish. If MACD is negative and declining further, then the negative gap between the faster moving average and the slower moving average is expanding. Downward momentum is accelerating and this would be considered bearish. MACD centerline crossovers occur when the faster moving average crosses the slower moving average. One of the primary benefits of MACD is that it does incorporate aspects of both momentum and trend in one indicator. As a trend following indicator, it will not be wrong for long. The use of moving averages ensures that the indicator will eventually follow the movements of the underlying security.

As a momentum indicator, MACD has the ability to foreshadow moves in the underlying stock. MACD divergences can be a key factor in predicting a trend change.  For example a negative divergence on a rising security signifies that bullish momentum is wavering and that there could be a potential change in trend from bullish to bearish. This can serve as an alert for traders and investors.

In 1986 Thomas Aspray developed the MACD histogram in order to anticipate MACD crossovers. The MACD histogram represents the difference between MACD and the 9-day EMA of MACD. The plot of this difference is presented as a histogram, making centerline crossovers and divergences more identifiable. Sharp increases in the MACD histogram indicate that MACD is rising faster than the 9-day ema and bullish momentum is strengthening. Sharp declines in the MACD histogram indicate that the MACD is falling faster that its 9-day ema and bearish momentum is increasing. Thomas Aspray recognized the MACD histogram as a tool to anticipate a moving average crossover. Divergences usually appear in the MACD histogram
before MACD moving average crossover. Armed with this knowledge, traders and investors can better prepare for potential change. Remember the weekly MACD histogram can be used to generate a long-term signal in order to establish the tradable trend, thus allowing only short-term signals that agree with the major trend to be used for investment action.

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