Tuesday, April 17, 2018

Dow Theory Update for April 17: More thoughts concerning the recently demised bull swing and the current primary bear market signal


The primary trend turned bearish on April 9, as was explained here, and more in depth here

Thus, the primary bull market that was signaled on November 21st, 2016 has come to an end. At this moment we cannot know whether the current primary bear market signal is going to be a “good one” (that is that further declines ensue, and that the next primary bull market signal is given at a lower price that the exit price at the close of April 9th, 2018) or a "bad" one.

What we do know, though, is that the trade that has been closed has lasted 505 calendar days (entry at the close of November 21st, 2016, exit at the close of April 9th, 2018). As was explained here, the average trade taken in pursuance of Schannep’s Dow Theory has had an average duration of 479 days. So we can say that the current trade has been a quite standard one. Furthermore, and since the market has made until recently all-time highs, it is reasonable to assume that we are now under a secular bull market. The trend when established with weekly bars (and applying Dow Theory rules) is clearly bullish which also seems to advocate for a secular bull market. The average trade duration under secular bull markets amounts to 864 days. Against this “secular” benchmark, the recently closed trade falls somewhat short of the average. In any instance, any way you cut it, we, at long last, have had a “normal” and profitable trade. Please mind that the last two preceding trades had an abnormal duration (too short) which prompted me to write several posts, which shed some light as to the unlikelihood of being decimated by abnormal trades, which you can read here and here. As an aside, you may remember that in my last post I was expressing the fear (when buying) and greed (when regretting to sell) that plague me when I have to act upon the Dow Theory signals. The posts I write when I am besieged by feelings serve me to assuage them and to have the courage to stick to the rules.
As to the gains made. The S&P 500 closed at 2198.18 on November 21st, 2016. On April 9th, 2018 it closed at 2613.16 which translates into a gain of 18.87%. Thus, this trade has been a decent winner. The average trade taken in pursuance of Schannep’s Dow Theory amounts to 22.07%). Thus, the recently closed trade has been slightly under par. Under secular bull markets the average trade amounts to a whooping 53.37%.

From the top made on 1/26/2018 (at 2872.87) to the close of April 9th, 2018 (bear market signal) at 2613.16, the S&P 500 declined -9.04 %. This is slightly more than the average decline from thetop which is ca., 7.7%. Hence, our decline has been slightly more than average but close enough to the top not to decimate portfolios.

If we consider the bottom of the previous primary bear market (made on 11/4/2016 at 2097.94 for the S&P 500) and the top of the recently demised one (made on 1/26/2018 at 2872.87), the total bull swing amounted to 36.93 % for the S&P 500.

If we consider the total advance from the close of November 21st 2016 (day of the primary bull market signal) to the top made on January 26st, 2018, the S&P 500 advanced 30.69%, which is quite close to the historical average. From 1954 to 2008 the average further advance until making a top following a primary bull market signal was a solid 37.98%. However, since 2009 we have had sputtering bullish action and subsequent advances following a primary bull market signal amounted to a much modest 12.16%. All in all, the advance following the primary bull market signal until the top was more like the “old” good swings than the action seen after 2009. Some readers might think that I am getting things wrong, since the market staged a tremendous advance since 2009. However, such an advance has not been “clean”, as rallies following primary bull market signals lacked follow through (and the same applies to sell signals) and have been interrupted by secondary reactions which degenerated into primary bear market signals. More thoughts as to the repercussions for actual trading of such mitigated market action here.

Here you have a chart depicting the market action since the primary bull market signal of November 21st. 2016 until April 9th, 2018. The horizontal lines on the lest and the right of the charts display the primary bull market signal (left) and the primary bear market signal (right). The red rectangles display secondary reactions. The first one was resolved successfully in favor of the ongoing bull market, the second one (right side) became a primary bear market signal:

A full and quite long primary bull market

Please mind that the subsequent advance until the top following a primary bull market signal is a vital statistic. We need follow through for signals to be profitable.

Now comes the one million question: How long are US indices likely to go down? Are we going to be whipsawed?

The answer is that nobody knows.

I only know the following: Since 1960 subsequent declines following a primary bear market signal averaged -12.17%. In other words, after the close of the day where a primary bear market signal is given until the close of the final bottom day, the S&P 500 has historically declined by an average -12.17%. Since we know that our average “buy” signal (primary bull market) tends to be on average at ca. 7.4% from the bottom, a decline of ca. -12% gives us “on average” the opportunity to take a new trade at ca. -5% cheaper prices. This is one of the two sources of the Dow Theory outperformance. Of course, if there is a severe decline (i.e. -30% or crash conditions of -50% or more) our entry price will be even in better terms. The other “source” of Dow Theory outperformance versus buy and hold is losing “on average” only ca. -8% from the top, whereas buy and hold has to endure average declines which tend to be larger.

I also do know that in the most recent past (since 2009 to present) further declines following a primary bear market signal have been more muted (only -8.66%) which partially accounts for more whipsawing and lower performance seen in the last few years. I wrote “partially” because not only have been subsequent declines until the bottom more muted but also subsequent advances following a primary bull market signal, which has been a challenging environment for the Dow theory (and for all trend followers, hence the underperformance of most hedge funds in recent years).

All in all, if the subsequent decline until a bottom is made is to resemble the averages of the recent past, we will be likely forced to buy (following the next primary bull market signal) at a slightly higher price than we sold. This is not to imply a future losing trade, but merely, a whipsaw (which of course is annoying). If the decline were to resemble the average decline since the 1960’s then we would be very likely reentering at a lower price than we exited which would help us build outperformance.

I have “ad nauseam” postulated that the Dow Theory outperforms buy and hold when the going gets tough. Mildly ascending markets interrupted by mild corrections are not the best environment for the Dow Theory (or for any trend following system whatsoever). Thus, a hefty decline is what we really need in order to make up for the underperformance versus buy and hold since 2009. Are we in the vicinity of a big decline? Nobody knows. What I know is:

a)     When the Dow Theory underperforms buy and hold, I get, nonetheless, positive results (no decimation).

b)    When the Dow Theory outperforms buy and hold, I get outstanding results (whereas buy and hold gets annihilated).

Thus, nobody should feel “uncomfortable” with relatively long periods of underperformance. The goal in investing is to survive in challeging conditions and be able to capitalize on the good market environments. If the periods of underperformance are, nonetheless, positive, we have to have to courage to stick to the rules.  

The cyclical bull market that got started in 2011 is statistically very old. This might imply that the odds for a serious decline (“serious” being at least meeting Schannep’s definition of a cyclical bear market, which is a -16% confirmed decline) should be higher now than, for instance, three years ago. More about cyclical bull/bear markets as per Schannep himself here.

One important thing, though. Our primary bear market has been (until now) defined by the “Rhea/classical” Dow Theory. Schannep’s Dow Theory has not yet signaled a primary bear market yet. Please remember that under Schannep’s Dow Theory whichever Dow Theory (be it “classical” or his) gives first a signal, such a signal is to be followed.  Hence, we are facing the following scenarios:

a)     Schannep’s Dow Theory signals primary bear market too (S&P 500 finally violating its 2/8/2018 closing lows). Outcome: Nothing changes. The “two” Dow Theories get in sync.

b)    Schannep’s Dow Theory refuses to signal primary bear market but indices do not exceed their January 2018 closing highs. Outcome: Nothing changes. We remain on the sidelines.

c)     Schannep’s Dow Theory refuses to signal primary bear market but indices do not exceed their January 2018 closing highs and the Industrials and Transports, as per classical Dow Theory develop secondary bullish reaction, setup for primary bull market signal and finally signal changed of trend from bearish to bullish. Outcome: We’d follow the “buy” signal given by the “Rhea/classical” Dow Theory irrespective of the meandering of Schannep’s Dow Theory.

d)    Schannep’s Dow Theory reconfirms primary bull market (which implies the three indices bettering their primary bull market highs). Outcome: Such a movement would also entail, the Industrials and Transports exceeding their respective primary bull market closing highs, which is a “buy” signal to be followed and which would change the primary trend as per the “Rhea/classical” Dow Theory from bearish to bullish.

So now we have to look for the development of the next secondary reaction (appraised by the “Rhea/classical” Dow Theory. For the time being, we are far from that.


In spite of all the turbulences that seem to afflict markets. The precious metals have not even changed their secondary trends.

The primary trend was declared bearish on July 7th, 2017, as explained here and here

The secondary trend is bullish, as was profusely explained here.

The pullback that got started on September 8th, 2017 has unambiguously setup SLV and GLD for a primary bull market. A quite different issue is whether the signal will be ever given.  An in-depth explanation here. Please mind that a “setup” is not the actual signal. GLD has broken up above the secondary reaction closing highs (on 1/24/2018, 2/14/2018, and 2/15/2018) unconfirmed by SLV. Thus, no primary bull market has been signaled and the primary trend remains unchanged.


Precious metals (both the stocks ETFs anb the precious metals themselves remain listless for many months now. Hence trends have not changed.

The primary trend is bearish, as was explained here and here.

The secondary trend is bullish as explained here

For the same reasons given when analyzing SLV and GLD, no primary bull market has been signaled for SIL and GDX, as explained here. GDX did not better its secondary reaction closing highs by a hair, but it failed to do so. Furthermore, SIL was very far from its secondary reaction closing highs.

On 11/10/2017 SIL violated its primary bear market closing lows (red arrow on the right side of the chart). GDX has not confirmed. Lack of confirmation implies that the primary bear market has not been reconfirmed, and, as with GLD and SLV,the longer it takes for GDX to confirm the higher the likelihood that the primary bear market may be nearing its end.

Therefore, the current situation remains unchanged. We have a primary bear market signaled on 10/04/2016 (more than one year old, another candle to light). There is an ongoing secondary reaction against the primary bear market and a setup for a primary bull market.

The Dow Theorist

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