DOW Theory for Market Timing
The DOW Theory of
Technical Analysis focused on using general stock market
trends as a barometer for general business conditions. It was not originally
intended to forecast stock prices. However, subsequent work has focused almost
exclusively on this use of the Theory. Dow theory is a core aspect of technical
analysis and market timing.
Dow understood among the firsts the importance of timing and reactivity
Rolling out the Random Walk theory long before it was so
named, Mr. Dow believed that everything known about the future business of
a company was already priced into its stock. Therefore, he felt this tool
was the best predictor there could be of future economic activity. And, by
choosing the most important stocks in the United States to compose his index,
he could determine where the economy of the country was headed. A nice tool
for a newspaper focused on such an endeavor. Mr. Dow's work led to what is
commonly referred to as the Dow Theory. This Dow Theory, which started
to include investigations into the trends and cycles of the stock market,
created the foundation for what are now the thousands of types of
technical
analysis approaches practiced in the market today.
Some concepts of DOW theory of
Technical Analysis:
- The Averages Discount Everything.
- The Market Is Comprised of Three Trends.
- Primary Trends Have Three Phases.
- The Averages Must Confirm Each Other.
- The Volume Confirms the Trend.
In general, Theory adherents will buy when the market
moves higher than a previous peak, and sell when it goes below the preceding
valley.
The Theory technical analysis for
QQQQ timing (AMEX:
QQQQ), S&P 500 timing
(AMEX:
SPY), Dow Jones timing
(AMEX: DIA) based on the volume of all index constituents works very
well for index shifts timing.
The Theory is predicated on the idea that a market has
discernible cycles. The cycles average four years, but may vary in length
(2-10yrs). Each cycle is divided into primary, secondary and minor trends.
The Theory specifies that closing prices should only
be used. This is because closing prices reflect the price level at which
informed investors are willing to carry positions overnight.
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