Tuesday, May 24, 2016

Dow Theory Update for May 24: Exceptionally, the Classical Dow Theory might be earlier than Schannep’s Dow Theory

Gold and Silver very close to secondary (bearish) reaction


The primary trend (as determined by Schannep’s Dow Theory) is bullish, as explained here and here.

The secondary trend is bearish (secondary reaction), as explained here.
Since I alerted on May 14th about the existence of the secondary reaction, stocks have extended their declines. Furthermore, no index has rallied more than 3% from the last recorded secondary reaction lows. The Transports have been close to it, but the 3% threshold has not been met. Thus, we derive two conclusions:

a) Given the absence of a +3% rally on at least one index, US stocks have not setup for a primary bear market signal.

b) We cannot say whether the lows of the secondary reaction have been made.

So, now we have the following scenarios:

a) if at least one index rallied by more than 3% and subsequently the SPY and another index (preferably the one that rallied more than 3%) jointly broke the secondary reaction closing lows (which may not have been made yet, as stocks may have further to decline), a primary bear market would be signaled.

b) if no stock rallied by more than 3% and the declined continued, a primary bear market would be signaled at the last primary bear market lows of February 11th, 2016 (SPY and Industrials), and the January 20th (Transports). More about such alternative (and the only one if the conditions set forth under letter “a” above never materialize) primary bear market signal, here. 

c) Stocks never break the secondary reaction lows, and finally exceed the April 20th closing highs (highs of the primary bull market), in which case the primary bull market would be reconfirmed (and the clock set to zero in order to appraise the next secondary reaction).
By the way, Schannep’s Dow Theory encompasses the “Rhea/Classical” Dow Theory. What do I mean by that? I mean that in the rare cases when the “Rhea/Classical” Dow Theory signals a new primary bull/bear market before Schannep’s Dow Theory does, we take the “classic/Rhea” signal as a good one, and act accordingly.

In most instances, Schannep’s Dow Theory is more reactive due to two facts:

a) It uses three indices instead of two (which increases the odds for declaring a secondary reaction or, once it exists, having an index rallying/declining by more than 3%).

b) Instead of three weeks, it just needs an average of 8 trading days of declining/ascending prices, with at least two indices having declined/rallied for a minimum of 10 calendar days.

However, on rare occasions, it may happen that the Industrials and Transports (classic Dow Theory) flash a primary bull/bear market signal before Schannep’s. Why? The current market juncture is a good example.

Both the “Classical/Rhea” and Schannep’s Dow Theory have signaled a secondary reaction. Let’s imagine that the Transports or the Industrials rally by more than 3%. A setup for a primary bear market signal would have been completed for both Schannep’s and the Classical Dow Theory. Let’s assume, though, that only the Industrials (or Transports) violated the secondary reaction closing lows, whereas the SP 500 refused to do so. As per Schannep’s Dow Theory (which requires the SP 500 to confirm, more about it here) the SP 500 must always be present for a primary bull/bear market signal. Should the SP 500 refuse to violate the secondary reaction lows, whereas either (or both) the Industrials and Transports did so, a primary bear market would have been signaled according to the “Classical/Rhea” Dow Theory, whereas according to Schannep’s would not.

I insist: Schannep’s rules include a vital one: On the rare occasions when the “Classical/Rhea” Dow Theory signal a primary bull/bear market before Schannep's, we take the signal. I don’t have Schannep’s book next to me, however, I recall that Schannep wrote that out of 44 signals, Schannep’s Dow Theory was “earlier” 42 times. However, this does not imply that we should ignore the “classic” Dow Theory when it is reacting swifter.

All in all, we keep our eyes open and pay also attention to the “classic/rhea” Dow Theory.

Here you have an updated chart displaying the current secondary reaction (red rectangles on the right side of the chart):

Let's keep an eye on the "Rhea/Classical" Dow Theory. It could be earlier this time

The primary trend and secondary trend is bullish, as reported here and here.

GLD and SLV are very close to signaling a secondary (bearish) reaction against the primary bull market.

The time requirement has been met by both precious metals, as the last closing highs were made on April 20th, 2016. More than one month has elapsed with declining prices.

As to the extent requirement, SLV has declined by -8.18% (yesterday’s close  15.59; closing high of April 20th: 16.98). I performed my usual volatility adjustment, and if we compare SLV’s 30 days average volatility with that of the SPY, we reach a minimum movement of -6.61%. Since SLV has declined by -8.18% de volatility-adjusted minimum movement has been amply met.

However, GLD’s is falling short of meeting such a requirement. GLD has declined by -3.46% (yesterday’s close 119.37; closing high of April 20th: 123.65). However, the volatility-adjusted minimum movement for GLD amounts currently to 4.04%.

Therefore, there is no confirmation as to the extent of the decline. While the parameters concerning extent are not carved in stone when departing from the realm of stocks, and it could well be that ex post facto I am proven wrong, my judgment tells me not to declare the secondary reaction yet. GLD should decline a little bit more, until the volatility-adjusted minimum decline is met.

More about volatility adjustments and how to perform them, here.
Here you have an updated chart displaying the current decline (orange rectangles) which I feel is not a secondary reaction yet.

Very, very close to having a secondary reaction but, to the best of my knowledge, not there yet

The primary and secondary trend is bullish as explained here

The current decline has not fulfill the time requirement (look by yourself at the chart. The small blue rectangles on the right side display the embrionary declines worth considering for determining a secondary reaction) and hence I don’t bother with calculating the extent requirement. We are still time-wise quite far from a secondary reaction against the primary bull market.

Here you have an updated chart:

Unambiguously very far from a secondary reaction against the primary bull market

The Dow Theorist

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