Understanding Dow Theory Secular And Cyclical Markets

Nov. 29, 2012 4:52 PM ETDIA, IYT
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Value, Dividend Growth Investing

Contributor Since 2008

Active investor with prior work experience with firms such as Bear Stearns, The Federal Reserve Bank of San Francisco, PMI Group, and as a subcontractor to Fannie Mae and Freddie Mac.

We often mention the concept of secular and cyclical markets in our discussion of Dow Theory. So far, we believe that we're in a secular bear market owing to the fact that the Dow Jones Industrial Average and Dow Jones Transportation Average cannot meaningfully exceed prior peaks. However, we feel it is necessary to provide a graphical representation of what a secular and cyclical market looks like. Our review spans the period from 1906 to the present.

Keep in mind that active analysis of Dow Theory provides cyclical indications of moves in the market which usually lasts from 2 to 6 years. Depending on the circumstance, which usually hinges on the quality of analysis, Dow Theory also provides an indication of secular trend changes in the market. However, secular trends usually encompass periods from 16 years to as many as 24 years.

In this assessment, we're assuming that Dow Theory was only able to provide bullish signals at 1/4 of the move from the bottom and bearish signals 1/4 of the move from the top for each cyclical trend. This is a very generous assumption in favor of those who are critical of the validity of Dow Theory as a market forecasting tool.

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