Key Points Established

6/18/2012


Midyear is a good time to step back and consider big-picture questions. For our money, the four below should be near the top of your list.

Q What is the state of the Dow Theory?
A With a rally above this year's closing highs of 13,279.32 in the Dow Industrials and 5,368.93 in the Dow Transports, the bullish primary trend would be reconfirmed. Unless both of those points are surpassed, a breakdown below the June 4 closes of 12,101.46 in the Industrials and 4,847.73 in the Transports would represent a bear-market signal.

Q Why are those points so important?
A When both averages are reaching significant highs, the primary trend is bullish — and higher stock prices are likely. When both are reaching significant lows, the primary trend is bearish.

This year's closing highs are clearly significant, and the June 4 closing lows followed significant corrections that retraced more than 50% of the advances since Nov. 25. From June 4, the Industrials rallied 3.9% while the Transports rose 4.4%. While continued near-term strength would make things easier for Dow Theorists, the averages have rebounded enough to qualify the June 4 points as significant lows.

Q What should subscribers do if the averages reach new highs or break below the June 4 closing lows?
A With a breakout to the upside, our recommended stock-market exposure will likely be increased to 90% to 95%.

With a downside breakout, our stock-market exposure will initially be cut to 75%. We may sell one or two stocks, but across-the-board cuts in our target weights will also be used.

With an upside or downside breakout, our Internet and telephone hotlines will be updated with specific instructions. For now, our Focus List and Buy List have 87.1% in stocks, versus 85.4% for our Long-Term Buy List.

Q Why should an investor keep 75% in stocks after a bear-market signal?
A First, we don't believe in timing the market in an all-or-nothing fashion, partly because the Dow Theory is not always right. Second, we tend to think a near-term bear market will be a garden-variety, 20% to 30% drop from the highs — not a 50% wipeout. Valuations and sentiment data are not consistent with euphoric market tops, which tend to precede the worst bear markets. Third, we see no shortage of attractively valued stocks supported by solid profit-growth outlooks.


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