Tuesday, April 10, 2018

Dow Theory Update for April 10: Dissecting the primary bear market signal for US stocks given on April 9th

Primary and secondary trend for precious metals and their ETFs unchanged


Trading is not easy. When I took the buy signal given on a now distant November 21st, 2016 (more about that signal here and here.), I was fearful, as a recent whipsaw prompted me to think that the then new signal was doomed to fail (“fail” means that I would be stopped out through a sell signal at a lower price than I was then buying). I was disciplined and, though fearful, I did not override the Dow Theory and honored the signal.

After a successful ride that lasted more than ca. one and a half year, yesterday we got a primary bear market signal which, at least for me, is tantamount to a “sell”. Go figure! This time I was fearful to sell, because I thought that this new sell signal (without the S&P 500 participation) is doomed to fail ("fail" would mean that the next "buy" is given at a higher level than yesterday's close). So when it was time to buy I was afraid to incur a loss, and when, as per the Dow Theory, it is time to sell, I am afraid to miss future profits. 

If such feelings besiege me, a person immersed in the Dow Theory since almost 20 years and true believer, can you imagine how difficult is to trade any trading system? It is not so easy to keep emotions at bay. This is why the saying goes "it is easier to talk (or write) about money than really making it"

Let’s analyze the current signal. To this end, let’s make a brief recap of Schannep’s Dow Theory.

Schannep’s Dow Theory has several rules. On the one hand, it has its own specific rules which make it different from the “classical” Dow Theory. Thus, it avails itself of three indices (INDU, TRANS, S&P 500), it has a specific definition of secondary reaction (no vague concepts, a hard and fast rule for both time and extent), etc. From Schannep’s set of rules we derive actual “buy” (primary bull market) and “sell” (primary bear market) signals. Schannep’s record show that usually his own rules are more responsive to changing market conditions than the “Rhea/classical” Dow Theory. In other words, buy and sell signals are given earlier and, more importantly, performance does not suffer. Schannep’s rules have historically resulted in more profits and less drawdowns. The most comprehensive comparison between both Dow Theory "flavors" is to be found here.

However, Schannep’s Dow Theory does not exclude the use of the “classical Dow Theory“ rules. Thus, Schannep keeps an eye on the development of secondary reactions, rallies, pullbacks, etc, when appraised exclusively using two indices (INDU and TRAN) and with the “rules” of the classical Dow Theory. In the rare instances where the “classical” Dow Theory is more responsive than “Schannep’s Dow Theory” (as it was the case yesterday), one takes the “classical” signal. Thus, Schannep is eclectic. If the “classical” Dow Theory gives a signal, such a signal is taken.

In our current juncture, the “classical” Dow Theory has given such a sell signal, whereas Schannep's Dow Theory has not. This implies that we have to analyze the markets under the prism of the classical Dow Theory.

The issue with the classical Dow Theory is that it lacks a specific rule to appraise secondary reactions. Rhea talks of “an important decline in a bull market or advance in a bear market, usually lasting from three weeks to as many months” (emphasis supplied).

The word “usually” means that even Rhea did not give much credence to the three weeks minimum time requirement. On page 61 of my “The Dow Theory” edition (Fraser Books 1993) Rhea goes on to say “no two students would agree on any rule for selecting and tabulating the important secondary reactions which have occurred during the 35-year history of the fluctuations of the railroad and industrials stock averages”.

He seems to accept (albeit not always) secondary reactions which last less than three weeks when, on the same page, he says that “one test eliminated all reactions as negligible which did not extent more than 15 days, with the result that many really important movements were eliminated”.

Schannep himself, when applying the “classical” Dow Theory tends to demand three weeks, albeit he allows some flexibility (as Rhea did). This is one of the instances where Schannep determines the existence of a secondary reaction for the Industrials and Transports (bear in mind that under “classical” Dow Theory we don’t use the S&P 500) when the three weeks time requirement has not been strictly met.

I display below a chart of the Industrials (top) and the Transports (bottom). The primary bull market top for the Industrials was made on January 26th, 2018 (Friday). As was explained here, Schannep considers the two days of the weekend as being part and parcel of the calendar days to be counted from the top. In other words, the last day of ascending prices was January 26th. Saturday 27th, and Sunday 28th, are counted as calendar days belonging to the interruption of the primary bull market. This aspect vital for the appraisal of the current secondary reaction was dealt with in depth here and here.

The decline stopped on February 8th, 2018. Thus the decline for the Industrials lasted 9 trading days, and more importantly, 13 calendar days. We almost had two full weeks of decline both in terms of calendar and trading days.

What about the Transports? Well the last recorded closing highs for the Transports were made on January 12th, 2018. The closing lows of the decline were made on February 8th, 2018. Thus, the Transports decline ostensibly more than 3 weeks (in calendar days) and 20 trading days. In other words, the Transports decline more than met the most stringent requirements for a secondary reaction under the “classical” Dow Theory.

Given that the Transports more than exceeded the 3 weeks benchmark, and given that the Industrials declined for almost two weeks, and (this is my personal view) given that the decline was important, as the Industrials declined by -10.4% and the Transports by -10.9%, it is not outlandish to declare the existence of a secondary reaction for the Industrials and Transports.

From the February 8th, 2018 closing lows both the Industrials and Transports rallied more than three percent, which set up stocks under the “Rhea/classical” Dow Theory for a primary bear market signal. More about the setup here.

The rally that followed the secondary reaction lows is displayed by the blue rectangles on the charts below.

On March 23rd, 2018 the Industrials violated their secondary reaction closing lows (red arrow on the top chart) unconfirmed by the Transports. The Transports confirmed yesterday, April 9th (red arrow on the bottom charts), thereby giving us a primary bear market signal under the “Rhea/classical” Dow Theory.

As I explained above, Schannep’s Dow Theory also acts upon the signals that are given by the classical Dow Theory. Hence, this signal is fully meaningful even though under the specific and clear-cut rules of “Schannep’s Dow Theory” no primary bear market has been signaled yet, as the S&P 500 remains (as of this writing) above its secondary reaction closing lows. By the way, under the rules of Schannep’s Dow Theory there is no doubt as to the existence of a secondary reaction, as was explained in depth here:

Here you have the chart that depicts the latest developments. The orange rectangles show the secondary reaction, the blue rectangles show the rally that followed the secondary reaction closing lows which set up stocks for a primary bear market, and the red horizontal lines display the relevant levels (secondary reaction lows) to be jointly violated in order to have a primary bear market signal. 

Primary bear market signal under the "classical" Dow Theory

There is much more to be written, namely:

·       Duration of the last “buy” signal.
·       Realized gains.
·       Maximum advance from the entry price.
·       Decline from the top.
·       What to expect from the current bear market. How deep may it go? Whipsawed?

Hopefully, before the end of this week I will be able to write a new post.


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


  1. Looking forward to your end of the week wrap up. Especially the last bullet point, looking into the future.
    Keep up the good work, it's appreciated.

  2. Thank you for all the time and work you put on this blog. I look at it often but don't comment.