- How far will the market go up and when will it end?
We do not know how long the market will go up or down. However, not knowing the future doesn't mean we can't take an educated guess as to how far it will go using Dow's Theory. Dow Theory says that the market will likely go up at least 1/3 of the amount of the previous decline. In the most recent instance we're looking at a decline in the stock market from 14,164 down to 6547.05. By dividing the difference by 3 we get 2539.16 (1/3). Adding 2539.16 to 6547.05 gets us to the level of 9086.21.
We now have a tentative upside target of 9086.21. However, Dow Theory also says that both the Industrials and the Transports need to exceed each prior peak in order for the trend to be valid (in this case the trend is up). As of the close of the market today, the Industrials smashed through the prior peak of 7350.94 on February 24th. The Transports barely closed above the prior peak of 2709.90 on February 24th. So far the signs are good that both indices will get close to the next peak which is 3203 for the Transports and 8280 for the Industrials.
Because both indices have gone above prior peaks we should continue to believe the market will generally go higher with some declines to occur along the way.
- What is the good and bad of Dow's Theory?
The good of Dow's Theory is the fact that it attempts to tell investors what the general trend of the market will be. How does the theory do this, by using the movement of the Dow Industrials, Transports and Industrial Production index along with volume indications from the New York Stock Exchange. Also, Dow Theory relies upon historical valuations of the stock market like P/E, dividend yield, book value, earnings and other assorted ways to measure the overall value of the markets.
The bad of Dow's Theory, if it is correct to begin with, is the fact that it can give false and early indications especially at perceived market tops. An example is the top in 1961 was 5 years before the actual top in 1966. Likewise the top in 1999 was 8 years before the actual top in 2007. Also, Dow Theory doesn't tell us about the direction of the market within a long term trend. For this reason, it becomes difficult to "trade" the market using this approach.
- The more people follow a concept or theory the less effective it will be.
The point was made that Dow Theory has been relatively ignore because of its lack of predictive value. While this is open for debate, my research says that it is a reasonable approach as long as it keeps working for me. If it no longer works then I will still use it but I won't rely so heavily upon it. However, if the critics keep ignoring the relative value of Dow's Theory then it makes the use of it more valuable and effective.
Dow's Theory alone won't answer the question of which stocks I will actually buy and sell. It only tells a person the trend. This is the reason why I combine Dow's Theory with my dividend investing approach so that at least if I'm wrong because of my reliance on a theory then I'll be able to collect income until I'm right or sell out if I'm disastrously wrong.
- Bear markets last a very, very long time.
Many market commentators in the media might claim that since we have seen a rise of 20% or more in the stock market then we must be in a bull market. However, I like the conservative view that Dow Theory takes on this issue and that is, a bull market begins when both the Industrials and Transports have exceeded the high of prior peaks. That means a bull market only starts at the 14,164 and 5,492 levels for the Industrials and Transports. This essentially means that both indices could go up over 100% and still be in a bear market as has been demonstrated many time in history.
- Ride out the upside action unless proven otherwise.
Because we are in a Bear market rally, the market trend is up until or unless we go below the previous low of March 9th.
- Those with outsized gains are probably more lucky than smart.
As I have learned the hard way, it is far better to be lucky in the stock market competition than smart. However, don't worry about getting lucky. Instead, focus on being informed as much about the history of the market to prepare yourself for the next wave of opportunity without losing money. Our goal is to learn and be ready. The luck will come in due time.
- I project that this bear market will last a while.
History suggests that the bear market will last 1/3 as long as the previous increase from 1974 to 2007. This means that the market should trade in a wide range until 2018. Around the year 2010 to 2018 we should see rampant inflation.
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