Wednesday, August 4, 2010

Dow Theory Caveat

August 03 2010 (Courtesy of Jesper Grønne of Denmark)

This is not a update suggesting to throw caution to the wind and initiate aggressive long positions--that is not the intent. However there are certain things happening in the markets that traders should be aware of--that is--the potential of bullish long term developments in the structure of the markets. With this in mind, it will be important to analyze the market closely on the next decline. If a serious decline does not develop and the June-July levels hold, then the bear camp must be abandoned and long positions will have to be considered when signs of a low are in place. This wont happen in the near future but if the next decline does not indicate the resumption of the April-July decline and in turn the 2007-2008 bear campaign, then traders must adhere to the adage that 'the trend is your friend'. Being stubborn and obstinate is a sure fire way of guaranteeing losses and eventual ruin.

A case can be made that the Transports are in the process of making a 'C' wave high and about to turn down. Wave 'C' equals wave 'A' at 4490.23 which is slightly below the recent high 4515.35--and slightly above the 61.8% retracement of the April-July decline. The relative strength index is approaching 70 which is the lower section of the overbought area. The Transports should be monitored for signs of a reversal in this time frame.
HOWEVER: it is not prudent to ignore the possibility of a DOW THEORY bullish signal being generated--both the Transports and Industrials making new recovery highs. This is of particular significance since the Transports FAILED to trade below the FEBRUARY 5th LOW of 3742.01. The recent structure of the Dow Industrial advance from the July low is unfolding in a five wave pattern, as opposed to a corrective A-B-C pattern. This argument can be fortified by the fact that the Industrials have broken above the June 21st high of 10594.16 by 98 points while the Transports have surpassed its June high, albeit, by only 1.23 points--but broke above it nonetheless. (the June highs being considered 4th waves of lesser degree)
If the bullish scenario plays out 11100-11200 and 4625-4650 could be met on the respective averages in the near future--this could be construed as being BULLISH in the longer term picture.

Equity Put-Call Ratios are not at extremes--a fact conveniently ignored or rationalized away by uber-bears--which suggests that the extreme bullishness needed for a significant top is not in place--although an argument can be made that if a wave 3 crash is about to commence in an ongoing bear market, bullish sentiment does not have to be at an extreme. However, if this study attracts attention at extremes it should also be acknowledged when it is ambiguous.

The S&P 500 Bullish Percentage Index is working higher, having surpassed the June peak in concert with the break in the indexes above their June peaks.

BOTTOM LINE: Long and Intermediate term I am still on the bear side (having initiated shorts at SPX 1205 on April 27th) but if the correction that is approaching does not take out the July lows and fails to accelerate down with a vengeance, I will be looking to reverse positions and get long the market. Repeat this is not a capitulation but merely a objective analysis of the current situation.


Anonymous said...

It is time you recognized "the trend", which is very bullish. Your objective theory is appreciated. Making money on the long-side gotten so easy and valuations are cheap. Besides, we have governments and big banks will come to rescue should there be any problems. I see new highs at some point and DOW at 42000 in seven years.

Fibocycle said...

I kick myself for not initiating long positions after the July 1st low which met several Fibonacci targets--even if it does turn out to be only a counter trend rally.
The 38.2% Fibonacci level of the 2007-2009 decline is at 1014 and the 61.8% Fibonacci harmonic of the 2009-2010 rally is at 1008. This should have been sufficient evidence combined with the non-confirming momentum indicators to warrant long positions.
Emotion clouded and listening to doom-sayer uber-bears clouded my judgment. The next decline will clarify where the market stands in the big picture. Emotion is a traders greatest enemy.

Fibocycle said...

Your comments are greatly appreciated and please feel free to make more comments like this in the future.

Anonymous said...

I think a key question is whether the rally to 10594 is considered significant.

If it is, then dow theory is a sell on break below 9757 in july.

If not, then it's all good.

This current rally, however, can definitely be considered significant. This means that a break below 9614 is a definite dow sell signal for a major bear market.