Pen Freak

The Dow TheoryCharles H. DowRobert RheaE. George SchaeferRichard RussellThe Dow Theory Today

Charles H. Dow

It is interesting and astonishing to observe that not until Prince Prince Prince Charles Dow started compiling the Dow Mother Mother Jones Industrial and Dow Jones Railing Index and started writing about the stock market a small over a hundred old age ago, stock guess was regarded merely as a game for the rich or as gaming for the brave. Sure, there were the tape readers, but the bulk of the public regarded Wall Street as a beginning of exhilaration - the amusement provided freely (unless you were on the incorrect side) by figs such as as Cornelius Vanderbilt, John Jay Gould, and the ill-famed Daniel Drew.

In a series of arresting columns for the Wall Street Diary at the bend of the century, Dow laid out the foundation of his ain theory on the stock market. Among them were:

The market is always to be considered as having three movements, all going on at the same time. The first thing to see is the value of the stock in which the speculator suggests to trade, the second the direction of the chief movement, and the 3rd the direction of the secondary motion (i.e. pillory fluctuate together, but terms are controlled by values in the long run). There are three forms to both a primary bull market and a primary bear market (not to be confused with the three motions mentioned above). The formation of a "line" in the averages bespeaks accretion or statistical distribution
The market stands for a serious well-considered attempt on the portion of far-sighted and well-informed men to set terms to such as values as be or which are expected to be in the not too distant future.
The method of making money in stocks, according to Dow, was to analyze basic statuses and exercising enough forbearance to capture the major movements. One of the few speculators who discovered this relatively new conception of making money on Wall Street at the clip was Jesse Livermore. He was able to carry through this lone through trial and mistake and the making and losing of respective fortunes.

William P. Hamilton

William P. Hamilton, Dow's standby and the 4th editor of the Wall Street Journal, continued Dow's bequest after his death in 1903. The Dow Theory as interpreted by William Rowan Hamilton word forms the footing of all modern technical analysis today. He wrote about the Dow Theory for the Wall Street Diary for more than than 20 years. His improvers to the Theory included:

The Averages price reduction everything
The primary tendency cannot be manipulated
Both the Industrials and Track (the modern twenty-four hours Transports) must confirm each other in order for the signaling to have got authorization
The Theory is not infallible. If person did happen such as a system, then he or she will have the human race in relatively short order and guess as we cognize it will not exist. Determining the tendency by spotting "higher highs" or "lower lows"
Hamilton's anticipations of the tendencies were uncannily accurate, even as he developed a broad following from his editorials. A major ground why he was accurate almost all the clip was his deficiency of a authorship agenda - choosing only to compose when he had something to state about the market, sometimes going for hebdomads without authorship a single word.

The 1 important clip when he erred was in late 1925 and early 1926 when he erroneously labeled a serious secondary reaction in a primary bull market as a bear market. Followers of William Rowan William Rowan Hamilton lost heavily during that period, as the market bottomed out in March 1926 (Industrials 135.20 and Track 102.41) and was getting ready to restart its long advance that would not stop (tragically) until September 1929.

Even so, Hamilton would always be remembered for penning the following column on October 25, 1929, just years before the crash. His words proved prophetic - calling for the beginning of a new primary bear market. Part of his now-famous editorial is reproduced below:

A Bend in the Tide - October 25, 1929

On the late Prince Charles H. Dow's well known method of reading the stock market motion from the Dow-Jones averages, the twenty railway pillory on Wednesday, October 23 confirmed a bearish indicant given by the industrials two years before. Together the averages gave the signaling for a bear market in pillory after a major bull market with the unprecedented continuance of almost six years. It is notable that Barron's and the Dow-Jones news service on October 21 pointed out the significance of the industrial signal, given subsequent confirmation by the railway average.

Hamilton passed away six hebdomads after he wrote the above editorial. It is a tragedy that probably not a great number of people at the Wall Street Diary or Barron's today have got got even heard of the Dow Theory, allow alone have a complete apprehension of it.

Robert Rhea
The adjacent great Dow theorist, Henry Martin Henry Martin Robert Rhea, initially stumbled upon the Dow Theory during his enterprise to happen "a system" for helping him do money in the stock market. In his attempts to confute the theory, he became a convert. Rhea was a very serious student, and he was able to use the Dow Theory as interpreted by William Rowan William Rowan Hamilton to his advantage, buying and retention pillory in 1921, and basically holding them until late 1928 (he reversed his short place when he realized Hamilton's advice was wrong in early 1926), missing only the concluding blowoff phase. He also "played" the short side successfully during the subsequent deflation. In 1932, he began publication his newssheet based on the Dow Theory, called the "Dow Theory Comment."

Rhea called the underside of the stock market in July 1932 almost to the exact twenty-four hours and the subsequent top in 1937. On July 21, 1932, with the Industrials at 46.50 and the Track at 16.76, Rhea instructed his broker to state his friends "the Dow Theory implied heavy purchasing for the first clip in over three years." Further, on July 25, 1932, Rhea sent a memorandum to 50 correspondents, portion of which is reproduced below:

The diminutions of both Railing and Industrial averages between early March and summer solstice were without precedent. The thirty-five twelvemonth record of the averages shows a fairly unvarying recovery after every major primary action, and such as recoveries average around 50% of the land lost on the decline; are seldom less than a 3rd and more than than two thirds. Such recovery clip periods be given to run to about 40 days, but are sometimes only three hebdomads - and occasionally three months.

The clip component is in favour of a normal reaction at this clip - because the slideoff was normal (the normal time time interval of major diminutions being about 100 days).

The market gave the unusual image of hovering near the lows for more than than seven weeks, and might be said to have got got made a "line" during the latter hebdomads of that period.

Because of all these things, and because the volume tended to decrease on recessions and addition on mass meetings during the 10 years preceding July 21, almost any 1 trading on the Dow Theory would have bought pillory on July 19th. Those who did not, had a clean cut signaling again on the 21st. Since that day of the month the deductions of the averages have got got been uniformly bullish, and it is sensible to anticipate that a normal secondary volition be completed, even though the primary tendency may not have changed to "bull". So much for the bad viewpoint.

Followers of Rhea who bought pillory during that time period and held until 1937 made a fortune.

E. George Schaefer
In July 1949, with the Dow Mother Jones Industrials registering a low at 161.60 and with the country in the thick of a terrible recession, a new primary bull market was born. E. George Schaefer, a Dow Theory adherent for more than than 20 years, started his newssheet authorship career near that time, calling his endorsers to lade up on common pillory in June 1949. He remained steadfastly bullish in the great rectifications of 1953 and 1957 and cautiously bullish since 1960 until the concluding top in 1966.

Schaefer believed that William Rowan Hamilton strayed away from Dow's original rule of investment in "values" and that Rhea spent most of his life improvising Hamilton’s "system" of trying to merchandise the markets when 95% of the population just cannot reduplicate what the emotional-less professional person bargainers can do. He also emphasized that some of the "rules" that William Rowan Hamilton and Rhea developed did not apply to the more than than modern and more emotional markets of today (such as the claim that secondary reactions be given to retrace one-third to two-thirds of the preceding primary swings). The best course of study of action was to purchase "great values" and staying fully invested through the primary trend.

In his 1960 book "How I Helped More than 10,000 Investors to Net Income in Stocks," Schaefer stated:

As celebrated before, my extremely bullish market letters of June and July, 1949, appeared just a few years and hebdomads after the low twenty-four hours of 161.60 was registered on June 13, 1949 by the Dow-Jones Industrials. Since that time, and for the adjacent 11 years, my letters have got been consistently bullish on the Primary Trend. The stock market have got got borne me out, and I would state that the bulk of my readers have benefited as they stayed fully-invested in the manner I have counseled.

Schaefer also developed some further technical tools and made further observations along with his survey of the Dow Theory. Among them are:

The 50% retracement conception
The output rhythm
The ratio of short interest to day-to-day volume
The survey of odd-lot trading
The 200-day investing line (the 200-day simple moving average)
Schaefer turned bearish at the most opportune clip in 1966 and became bullish in gold and gold excavation shares shortly afterwards. He was, however, too early with his bullish phone calls when he asked his endorsers to purchase them in 1974. Gold immediately proceeded to endure a huge short-term correction. The losings may have got broken him since he committed self-destruction shortly afterwards. From thereon, the Dow Theory torch was passed on to Richard Russell.

Richard Russell
Richard Charles Taze Charles Taze Charles Taze Russell was another Dow Theorist who stumbled upon the Dow Theory during a pursuit to happen utile literature regarding the stock market. He became a convert after reading the Hagiographa of Henry Martin Robert Rhea. Charles Taze Charles Taze Russell decided to follow in the footfalls of Rhea and Schaefer - establishing his newssheet "Dow Theory Letters" in 1958, partly inspired by the utmost bearishness of the public during the great rectification of late 1957 (Russell was bullish at the time).

He also urged endorsers to sell at the top in February 1966, and he rightly turned bullish in December 1974. Following are extracts from his newssheet during those periods.

February 10, 1966 (two years after the concluding top) - While Charles Taze Russell mentioned that although technical statuses are getting weaker, there is no indicant that the bull market was over yet. However, on the coincident diminution of the Dow Mother Mother Jones 40 Chemical Bond Average and the Dow Jones Utility Average, he commented: "In the present ... case the 40 Bonds turned down in February, 1965. The existent diminution in Utilities began in April, 1965. Therefore, the joint diminution in both constituents can be said to have got started in April, 1965, nine calendar months ago. Based on past history, the diminution of Utilities and Bonds together should be taken as a warning of dangerous pecuniary statuses ahead as well as a warning of unsatisfactory stock market conditions. At very least, the shaded countries place time periods in which informed investing money is distributing or leaving the market."

Russell began his February 22, 1966 newssheet with the following paragraph: I dislike emphasizing "the play of the marketplace" (in direct contrast with the cold, analytic approach), but it makes look to me that 1966 is shaping up as a most exciting twelvemonth for market students. Not since 1907 have a flourishing economic system tally head-on into a pecuniary crisis, but I believe there is a sensible opportunity that 1966 will see just that type of state of affairs repeated. Furthermore, the pecuniary squeezing is occurring at a clip when (unlike 1907) few businessmen, economic experts or Governmental leaders have got the foggiest thought of the overall state of affairs or the vaguest impression of how to deal with it. What we are seeing is an explosive demand for money from all sectors of the economic system with a "built in" supporter of $1 billion a calendar month for the Socialist Republic Of Vietnam warfare - all this in the human face of human race money markets which are literally "panting for breath."

Note that these were very strong remarks since the public was very enthusiastic about the stock market at that time. In fact, according to Charles Taze Russell in the same newsletter, common monetary fund purchases by the public in December 1965 were the highest of any December in history. At the same time, the initial offering by the newly-formed Manhattan Fund (headed by Gerald Tsai) was nearly five modern times oversubscribed. 1966 was a very bad period, indeed.

The time time period during late 1974 was a human race full of contrasts to that of early 1966. Pessimism was prevalent. The Dow Mother Jones Industrials was selling at a P/E ratio of 6 and at below book value. Some endorsers canceled their subscriptions of Dow Theory Letters after Russell's particular report on December 20, 1974 - thinking that Charles Taze Charles Taze Russell had clearly gone out of his mind. Part of that newssheet is reproduced below:

Now this is how I see it. I believe the likelihood are probably better than 50/ 50 that the Dow and most shares hit a underside in December 1974. I set this thesis together with a number of other facts. As you will see in a future section, the unweighted New York Stock Exchange average is now down around 77% from the high. In 1929-32 the unweighted New York Stock Exchange average went 12% additional on the downside - to an 89% loss. I experience that most shares have got now discounted all the extroverted bad news, and I am including recession-depression statuses in 1975. We have got been in the 3rd form of a great primary bear market. We are finally in the zone of "great values". In many cases, pillory are selling "below known values". Here's an interesting statistic: The price/ earnings ratio for the 30-Dow Industrials is now around 6.0 while the output on the Dow is 6.36. This agency that the Dow P/E is below the output on the Dow. This happened only once before in the last 40 years, and that was during 1948-50.

Second item: The Dow is now selling below its book (or break-up) value. This have not occurred since 1942. Are these two above Dow "tests" infallible indicants of the concluding bottom? Not at all, but they make bespeak that the Dow is certain getting down there.

There is no uncertainty that the 1974 underside phone call was one of the top stock market phone phone calls in modern history, right up there with Hamilton's 1929, Rhea's 1932, and Schaefer's 1949 calls. Based on the Dow Theory and his ain observations, he told his endorsers the market was a "sell" in August 1987, even though no Dow Theory sell signaling have been triggered at the clip (Hamilton and Rhea have always emphasized that one makes not usually need to wait for a Dow Theory bargain or sell signaling to state one to purchase or sell). That signal, however, was triggered just years before Black Monday, October 19, 1987, as the Dow Transports confirmed the Dow Industrials on the downside by breakage through its preceding secondary lows on October 15 (such a signaling in the 3rd form of a primary bull market is taken to be a primary bear market signal).

Russell stayed cautiously bullish during the late 1990s. In September 1999, the Dow Theory generated a primary bear sell signal. Today, Charles Taze Russell still keeps that we are in a primary bear market, and that the market will not bottom until pillory have got reached the point of "great values" with P/E ratios below 10 and with dividend outputs of greater than 5%. At the age of 79, Charles Taze Charles Taze Russell is still going strong, publication a market commentary every Monday to Saturday.

The Dow Theory Today

The Dow Theory have withstood the diagnostic test of clip - the up-to-the-minute "proof" being Russell's primary bear market phone call based on the Dow Theory in September 1999. As with his 1974 primary bull market call, numerous stock market analysts ignored him, including some of his ain subscribers. Assorted "trading systems" come up and go, but the Dow Theory have been a dependable tool for the trader/investor for over a century - mainly because the Dow Theory is not a system, but merely a theory based on the rules as first developed by Prince Charles Dow, and which is unfastened to interpretation.

Since the 1999 primary bear market signal, a great deal of interest have been revived in the Dow Theory. However, not a twenty-four hours travels by without spotting person who claims an apprehension of Dow Theory but who actually only have a cursory apprehension at best. More recently, numerous bargainers have got tried to reduce the Dow Theory to a "system," where a series of confirmations of the Dow Mother Mother Jones Industrials by the Dow Jones Transports (or vice-versa) is taken to be "buy" or "sell" signs without sees to other factors such as as valuation, economical conditions, and investor sentiment.

It is to be said here at none of the above Dow Theorists interpreted the confirmations of the indexes in that manner. None of them actually waited for such as "signals" to purchase or sell - they bought or sold in advance. Waiting for such as as "signals," they claimed, would cause them to have got missed a important portion of the move, and such moves can be costly. The primary intent of this index is to function as a confirmation of the current trend, and if one index makes not confirm the other (or if it takes a long clip to confirm) then it is a warning mark that the current tendency may be over, and places may need to be liquidated (or Michigan may have got to be tightened) or may need to be covered if one is short. Again, the confirmation of one index by the other is not to be taken as a bargain or sell indicator.

Another fluctuation of this false belief is that the July and October 2002 underside were the true bottoms, and that unless those undersides were jointly penetrated by the Dow Mother Jones Industrials and Transports, we are now in a bull market as interpreted by the Dow Theory since we have got made higher highs in both indexes. Nothing can be additional from the truth. Please retrieve that Dow's original accent was on evaluation and economical conditions. All the major indexes are still overvalued today judging by their P/E and P/D ratios. Moreover, the higher highs index can only be treated seriously in the 3rd form of a primary bear market, when pessimism runs utmost and when pillory are liquidated without sees to values. We had none of that in this bear market so far.

We believe any serious investor/trader should take the clip and seek to derive a true apprehension of the Dow Theory. I sincerely believe that the Dow Theory is even more than valuable today than it ever was - in a human race full of hedge finances using price, volume, and volatility jailbreak systems and with anyone willing to leap in at the mark of a possible trend. Today's markets are more than emotional than ever and only by knowing the true dogmas of the Dow Theory can one stay firmly planted on the land with both feet. Ignore the fourth estates and anyone else who have not taken the clip to learn the Theory. Read all the historical Hagiographa by the above Dow Theorists, and I assure you that this instruction will be immensely more than valuable than any secondary instruction you can obtain in a top 10 business school or a top five investing bank today. Our land site will seek to incorporate the Dow Theory in our analysis, but delight bear with us from clip to clip since we are still students of the Dow Theory ourselves.