Wednesday, September 11, 2013

Dow Theory Update for September 11: Stocks remain strong

More Dorsey Wright on debunking buy and hold.

Yesterday I quoted Dorsey Wright's article debunking the myths of buy and hold. The article is so profound, and encapsulates in a short space so much wisdom, that it is worth quoting the closing paragraph of the article, which you can find here.

“Every strategy, including buy and hold, has risks and opportunity costs. Every transaction is a risk, as well as an implicit bet on what will happen in the future. The outcome of that bet is not known until later. Every transaction, you make your bet and you take your chances.  You can’t just assume buy and hold is going to work forever, nor can you assume it will stop working. Arguments about any strategy being correct because it worked over x timeframe is just a good example of hindsight bias. Buy and hold doesn’t promise good returns, just market returns. Going forward, you just don’t know—nobody knows. Yes, ambiguity is uncomfortable, but that’s the way it is.

That’s the true state of knowledge in financial markets: no one knows what will happen going forward, whether they pretend to know or not (emphasis in original)”

This quote should be carved in the heart and mind of every investor. There are no certainties (not even for the Dow Theory); the only certainty, though, is that I have better chances of surviving financially if I am not willing to overstay declining markets. To accomplish this you need market timing skills. To acquire such market timing skills (i.e. through mastery of the Dow Theory) takes effort and humility (accept that “no one knows what will happen going forward”); there are no shortcuts. The likely, albeit not guaranteed, reward for successful market timers is, firstly, avoiding killing draw downs, and, secondly, under a propitious market (i.e. the US in the last 200 years) even a modest outperformance with reduced risk (variability of returns). Under less favorable environments (i.e. European markets decimated by the WW I and II), the investor derives at least clues as to when to get out and look for greener pastures.


The SPY, the Industrials and Transports closed up.

The primary trend is bullish, as explained here, and more in-depth here.

The secondary is bearish, which implies an ongoing secondary reaction against the primary bullish trend, as explained here.

Today’s volume was smaller than yesterday’s, which is bearish as higher prices were not confirmed by higher volume.

Gold and Silver

Yesterday I hinted that the recent pullback underwent by SLV and GLD might setup the precious metals for a primary bull market signal. Let’s recap. The primary trend is bearish. Now there is an ongoing bullish secondary reaction against the primary bear market. In the last few days both SLV and GLD experienced a pullback. However, under the Dow Theory not all pullbacks are the same and, hence, qualify for a setup. Thus, when dealing with US stocks, the Dow Theory requires a pullback of 3% or more in at least one index. As I have repeatedly explained, when dealing with other markets, the amount of the pullback should take into account the greater or lesser volatility of the markets under study.

In this post I conducted and in-depth study of SLV and GLD’s volatility. Accordingly, SLV should undergo a pullback of at least ca. 9% and GLD ca. 5.6%.

Sec Reac high
Pullback low

Pullback Pct

So we can see that neither GLD nor SLV’s pullback qualifies under the Dow Theory to set up the metals for a primary bull market signal. Thus, we have to wait.

Therefore, the situation now remains as follows (see chart below):

SLV and GLD in nowhere's land
If SLV and GLD jointly breakup the blue horizontal line (secondary reaction highs preceding that last primary bear market swing), we get a primary bull market signal.

If SLV and GLD jointly violate the red horizontal line (last recorded primary bear market lows), we get a primary bear market signal.

SLV closed up, and GLD closed down. For the reasons I explained here, I feel the primary trend remains bearish. Here I analyzed the primary bear market signal given on December 20, 2012. The primary trend was reconfirmed bearish, as explained here. The secondary trend is bullish (secondary reaction against the primary bearish trend), as explained here.

As to GDX and SIL I wrote than maybe a new secondary reaction against the primary bull market had been signaled. After careful analysis I conclude that both ETFs have been declining for 10 days. Thus the first requirement for a secondary reaction has been meet. However, after measuring the amount retraced from the highs, neither ETFs has completed a “qualified” pullback under the Dow Theory. According to the volatility adjustments SIL should have declined by 12.28% and GDX by 14.01%. This hasn’t happened yet.

SIL and GDX closed up. SIL and GDX, unlike GLD and SLV, are unambiguously in a primary bull market under the Dow Theory, as explained here and here. The secondary trend is bullish as well.

Here you have the figures for the SPY, GDX and SIL which represents the only markets with suggested open long positions.



Bull market started
06/24/2013 157.06
Bull market signaled
07/18/2013 168.87
Last close
11/09/2013 169.4
Current stop level: Bear mkt low


Unrlzd gain % Tot advance since start bull mkt Max Pot Loss %

0.31% 7.86% 7.52%



Bull market started
06/26/2013 10.59
Bull market signaled
08/14/2013 15.36
Last close
11/09/2013 14.91
Current stop level: Primary bear mkt low
06/26/2013 10.59

Unrealized gain % Tot advance since start bull mkt Max Pot Loss %

-2.93% 40.79% 45.04%


Bull market started
06/26/2013 22.22
Bull market signaled
08/14/2013 28.7
Last close
11/09/2013 26.79
Current stop level: Primary bear mkt low
06/26/2013 22.22

Unrealized gain % Tot advance since start bull mkt Max Pot Loss %

-6.66% 20.57% 29.16%


The Dow Theorist

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