If selling volume picks up during a pullback, it could be a sign that more market participants are turning bearish. Conversely, an uptrend is considered in place until a lower low forms and the ensuing decline exceeds the previous low. An uptrend began with the Oct-98 lows and the DJIA formed a series of higher highs and higher lows over the next 11 months. Twice, in Dec-98 and Jun-99 , the validity of the uptrend came into question, but the uptrend prevailed until late September. (The Dec-98 price action is addressed below.) There were lower highs in Jun-99, but there were never any lower lows to confirm these lower highs and support held.

In Sept-96, the DJIA ($INDU) recorded a new high, thereby establishing the primary trend as bullish. During the advance from Sept-96 to Mar-97, the DJIA never declined for more than two consecutive weeks. By the end of March, after three consecutive weeks of decline, it became apparent that this move was not in the category of daily fluctuations and could be considered a secondary move.

For instance, if the Industrials index is edging higher, but the Transportation index is drifting lower, the bullish breakout in the Industrials is weak or a false signal. Over the years, investors have applied this tenet to other major indices such as the S&P 500 and Nasdaq 100. They developed a neural network that incorporated the rules for identifying the primary trend.

Furthermore, future events, such as economic news releases, have also been factored into the current price. This is also the philosophy of technical analysis, and it conflicts with the principles of fundamental analysis and behavioural economics. The Dow Theory is a trading approach formulated by Charles Dow, the founder of The Wall Street Journal and Dow Jones and Company.

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Modern technical analysis strives to make money in any kind of market, whether it is trending up, down, or sideways, and in any time frame, including intraday. However, periodically I come across articles about day traders, for instance, and read about how most of them lose more than they earn. This might seem like blasphemy in some circles, and I’m okay with that. But Charlie Dow’s tenet about Volume confirming price is simply not one I find very useful in today’s market.

He qualified his assumption by asserting that it was not possible to manipulate the primary trend. Intraday, day-to-day and possibly even secondary movements could be prone to manipulation. These short movements, from a few hours to a few weeks, could be subject to manipulation by large institutions, speculators, breaking news or rumors. Today, Hamilton would likely add message gkfx review boards and day-traders to this list. When the volume was declining on higher prices and increasing on declining prices, this was an indication that an uptrend may be reversing. Conversely, when volume was less on price declines in a downtrend, and greater in market rallies, this could serve as a confirmation that a bear market was ending, and a bull market was beginning.

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Volume as Confirmation

While the media and investing public are still all over the name, institutional money starts to fear the elevated valuations relative to prior periods and begins to sell. This is a process, kind of like a cruise ship making a 180-degree openfx plugin turn; it takes time and can be recognized if you’re paying attention. The media and public at this point have been trained to just assume that buying the dip will keep working as it has over the past year or few years.

• It’s their job to blatantly make up reasons for why something is up or down during the prior few hours, even though they truly have no idea why.
• In a primary uptrend, a series of higher highs and higher lows is made, a secondary trend within that uptrend is the price moving from a higher high to a lower high.
• The “Industrial Average” included 12 blue-chip stocks and the “Rail Average” was comprised of 20 railroad enterprises.
• He qualified his assumption by asserting that it was not possible to manipulate the primary trend.

The selloff in the market leaves the public in an utter state of frustration. The Accumulation phase usually occurs right after a steep sell-off in the market. The steep sell-off in the markets would have frustrated many market participants, losing hope of any uptrend in prices.

The methods for identifying the primary trend are clear-cut and not open to interpretation. Smart money is usually the institutional investors who invest in a long term perspective. They invariably seek value investments which are available after a steep sell-off. Institutional investors start to acquire shares regularly, in large quantities over an extended period of time. This also means that the sellers trying to sell during the accumulation phase will easily find buyers, and therefore the prices do not decline further. Hence invariably, the accumulation phase marks the bottom of the markets.

What is the Dow Theory?

After the low point of a primary downtrend, a secondary uptrend bounce that exceeds 3% will occur and establish a temporary peak that holds above the previous lows. It is always the investors ‘in the know’ who are the market’s protagonists. At both extremes, the ‘sheep’ will buy at the top and panic at the bottom. Dow Theory helps investors identify facts, not make assumptions or forecast.

From basic trading terms to trading jargon, you can find the explanation for a long list of trading terms here. The double and triple formations are reversal patterns, which are quite effective. From my own trading experience, I find both double tops and double bottoms handy while trading. I always look for opportunities where the double formation coincides with a recognizable candlesticks formation. Cowles concluded that a buy-and-hold strategy produced 15.5% annualized returns from 1902 to 1929 while the Dow theory strategy produced annualized returns of 12%. The six basic tenets of Dow theory as summarized by Hamilton, Rhea, and Schaefer are described below.

The reaction rallies should also be narrow, reflecting poor participation of the broader market. By analyzing the reaction rallies and corrections, it is possible to judge the underlying strength of the primary trend. Just as accumulation is the hallmark of the first stage of a primary bull market, distribution marks the beginning of a bear option profit loss graph market. As the “smart money” begins to realize that business conditions are not quite as good as once thought, they start to sell stocks. The public is still involved in the market at this stage and become willing buyers. There is little in the headlines to indicate a bear market is at hand and general business conditions remain good.

They must believe that by focusing on this short-term noise, it will increase their audience. In the real world, however, for those of us trying to make money in the market, which is the large majority, it is actually the least relevant time period. The primary trends, which are the most important, are generally in place for over a year’s time. Through the writings of Dow and Hamilton, Rhea identified 4 separate theorems that addressed trend identification, buy and sell signals , volume and, lastly, trading ranges.

This is just more noise that can be seen within minor trends, as mentioned in Tenet #1 above. This is noise, and those who get paid to make noise, pay the most attention to this stuff. It’s their job to blatantly make up reasons for why something is up or down during the prior few hours, even though they truly have no idea why. This is something that often gets overlooked, and I’m really not sure why.

At the same time, you can see that the stock formed some two major relief sell-offs but the primary trend remained intact. This last tenet, that two opposing primary trends cannot coexist on two different market indices, was undoubtedly the most important to Charles Dow. In other words, the primary trend discovered on a market index must always be confirmed by a similar trend on another market index and vice versa. Bull MarketsA bull market occurs when many stock prices rise 20% from a recent low, with the price climb spanning for an extended period. In April, both the DJIA ($INDU) and DJTA ($TRAN) recorded new all-time highs .

Every day brings a whole host of headlines about the financial markets. Get daily investment insights and analysis from our financial experts. As a reminder, volume is how many trades took place or the value of the trades that took place over a certain period of time. Volume on a price chart will normally be plotted as a bar chart beneath the price plotted as a line or Japanese candlesticks.

Excess/Panic Phase

Usually, conversations about Dow Theory revolve around the Dow Jones Industrial Average and Dow Jones Transportation Average either confirming or not confirming each other’s trends. This is indeed part of Dow Theory, but not even in my top 5 most important Dow Theory Tenets. There are other aspects of Dow Theory that we need to pay attention to even more. The averages discount everything (i.e., they reflect all relevant market information). This indicator suggests there may be reason to be optimistic short term. Dow Theory can be used to help determine the market’s trend.

Averages Discount Everything

The Dow Theory depends on interpretation and is subject to all the hazards of human interpretive ability. It is perfectly true that the Dow Theory does not help the Intermediate Trend investor, as it gives little or no warning of changes in Intermediate Trend. Some traders have worked out supplementary rules on the basis of Dow principles that they apply to Intermediate Movements, but these have not proved to be satisfactory. The fact that the Dow Theory frequently leaves the investor in doubt is true in one sense, yet not in another. There is never a time when the Dow Theory does not afford a presumptive answer to the question of the direction of the Primary Trend. Daily fluctuations are important for short-term trading, but are unimportant in analysis of broad market movements.

The Industrials and Transports must confirm each other in order for a valid change of trend to occur. The final phase is characterized by thediscouraged sellingof buyers that held through the panic phase or bought during the recovery period. The discouraged selling is not as violent as in the panic phase. The final phase is characterized byphenomenal advancesas more and more of the public are drawn to the market. Thus, every known and foreseeable event is discounted, as is every condition that could affect the supply and demand of the individual stocks. The Dow Theory is the common ancestor to most principles of modern technical analysis.

Using multiple time frames really helps to identify the trend. First, you have a longer-term Primary Trend which can be identified using weekly or monthly time frames. Then you have Secondary Trends within the larger primary trend. This can be seen using a more intermediate-term time horizon, looking out weeks and months. And finally, these secondary trends are composed of Minor Trends which last hours and days. The minor trends are where the most noise can be found and is where the financial media likes to focus most of its attention.

In July, trouble began to surface when the DJTA failed to confirm the new high set by the DJIA. Remember, the trend is assumed to be in force until proven otherwise. Airline companies typically carry above-average levels of debt and will be more vulnerable to changes in interest rates. The airline business is cyclical and revenues are highly susceptible to economic changes. The Elliott Wave Theory (“EWT”) is named after Ralph Nelson Elliott and is a method of technical analysis based on crowd psychology.