The State Of The Dow Theory

12/23/2013


Because investors, collectively, have a good record of anticipating changes in the stock-market outlook, the majority money opinion is one view always worth considering.

For followers of the Dow Theory, the majority money opinion is expressed in the action of the Dow Industrials and Dow Transports. As founding Dow Theorist William Hamilton wrote in 1921, "A major bull swing continues so long as the rally from a secondary reaction establishes new high points in both averages."

In general, secondary reactions last three weeks to three months and retrace one-third to two-thirds of the primary movement since the last significant secondary reaction. While determining whether a pullback qualifies as significant can sometimes be difficult, this year's action has been unambiguous. Three times since May the averages have suffered significant corrections, with each pullback followed by a nearly synchronized rebound to new all-time highs.

While three weeks have passed since the lastbull-market confirmation on Nov. 27, the Industrials reached a new all-time high on Dec. 18 after the Federal Reserve announced a modest decrease in its bond-buying program and reiterated its commitment to keep short-term interest rates near 0% well into the future. With a close above the Nov. 27 all-time high of 7,255.00 in the Transports, the bullish primary trend would be reconfirmed.

Without new highs in the Transports, a near-term market decline would merit close attention, as even a fairly minor correction could qualify as significant. A one-third to two-thirds retracement of the Oct. 8-to-Nov. 27 advance would bring the Industrials to about 15,215 to 15,660. For the Transports, the comparable range is 6,715 to 6,990.

For now, the majority money opinion should be regarded as bullish. The Dow Theory is not always correct, and we don't use it to the exclusion of all other considerations. But after a year of higher highs and higher lows, a breakdown below significant lows in both averages would be reason enough for us to lower our stock-market exposure.

Our bottom-line advice

Our buy lists have 93% to 96% in stocks. For now, subscribers should maintain a nearly fully invested posture while watching the averages. Look for buying and selling opportunities on a stock-by-stock basis, emphasizing reasonably valued shares of companies with solid profit-growth prospects. For new buying, new Focus List addition United Rentals ($74; URI) offers a timely pick.


KEY DOW THEORY POINTS SINCE JUNE
Dow Industrials
Dow Transports
Date
Key Point
Change
% Chg.
 
Date
Key Point
Change
% Chg.
Jun. 24
14,659.56
Jun. 24
5,990.79
999
6.80%
679
11.30%
Aug. 2
15,658.36
Aug. 1
6,670.06
-882
-5.60%
-420
-6.30%
Aug. 27
14,776.13
Aug. 30
6,249.88
901
6.10%
477
7.60%
Sep. 18
15,676.94
Sep. 19
6,726.94
-900
-5.70%
-280
-4.20%
Oct. 8
14,776.53
Oct. 8
6,446.75
1,321
8.90%
808
12.50%
Nov. 27
16,097.33
Nov. 27
7,255.00
Recent
16,167.97
Recent
7,207.17

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