The great analysts of old developed a market system that is as valid today as it was 100 years ago. Dow Theory was developed by Charles Dow, William Hamilton and Robert Rhea from 1900 to 1939. This system lends clarity to a deceptive market. Rather than listen to FED governors pontificate and CNBC commentators bloviate, lets look at what Mr. Market is saying by examining the language he speaks… price action.
Follow along the sequence of events that have played out over the past year: First the transports topped in November of 2014. While the Dow proceeded to put in higher highs the transports failed to follow. This was the first red flag indicating a non-confirmation of the averages. Next the Dow topped in May 2015 and its next rally was unable to exceed this level. This indicated the averages were in trouble and sounded a top alert. In August of 2015 we then had a Dow Theory Primary Trend Change Signal. This occurred due to both averages breaking below their previous reaction lows of fall 2014, as indicated. Since this time we have been in a confirmed primary down trend. In accordance to Dow Theory this is considered a bear market. That’s right, DOW Theory has no problem claiming this as the beginning of a bear market. The down 20% “rule” is bogus, where did this come from? No one has ever attributed a source for this, it just showed up on CNBC about 20 years ago.
Since this Primary trend change the averages have reconfirmed this trend again in January of 2016 by breaking to lower lows and then for good measure, recently put in an upside non-confirmation of the of the averages in this recent rally in stocks. Note how the transports failed to exceed its previous rally while the DOW broke above its previous rally. This shows the averages not confirming each other indicating misalignment, consistent with the still valid primary downward trend.
OK Plunger big deal, so what does all of this mean? Sounds pretty technical, so what’s the big picture?
The big picture is we are likely in the early stages of a massive bear market when savvy insiders trade in their stock for cash because they sense danger. Its called distribution, and they distribute to the future bag holders of the next bear market. That’s where we are today and you can see the tracks of the bear in the below chart. Mr. Market likes to be deceptive and the only way he can pass along damaged goods to tomorrows bag holders is to polish them up before he dumps them. This is how he operates and he is a pro at it, so he engineers a nice spike rally and is able to plant a bullish narrative into the minds of market participants. In a bear market a healthy organically driven rally is hard to pull off, but a spike rally, oh that’s not a problem at all, just jam the shorts and pretty soon it feeds on itself. You can see on the chart the large supply overhang at the current price. Price is not likely to be able to absorb that supply and then have the power to punch through that big distribution dome.
Ok Plunger, you’ve finally got my attention so remove all the noise you mention and give me the real scoop, you know the big picture, where is all this leading?
It could very well be leading to a bear market that has been held off for years. That is the bear that has not been allowed to develop or “clear” the market to natural levels. Why? Because QE and FED/Govt interventions have prevented it until now. We always look at the market in nominal terms, what if we stripped out inflation in the averages and viewed the market and its cycles from a purchasing power perspective. We then see the distortion of inflation removed and the cycles display themselves clearly. We can now see the ebb and flow of bull and bear markets. We can see the 2000 bear market truncated by FED money printing and never allowed to run its course and properly clear the market of its excess. But here is the thing, when the imbalances of the previous bull are never allowed to clear and in fact added to the FED is not doing society as a whole any favors. They are just bailing out their cronies and polishing their egos. So let’s ask the question, with zero interest rates and the monetary gun now expended will the markets now be able to clear?