The Essence of Dow Theory
The greatest part of Dow Theory is its valuable philosophical thoughts, which constitute its essence. Viewing Dow Theory merely as a forecasting tool not only shows a lack of understanding but could even be considered an insult to Dow Theory. Here, I summarize the basic ideas, application experiences, and the investment wisdom contained within Dow Theory, hoping to enlighten everyone:
I. Basic Ideas of Dow Theory
*Three Assumptions of Dow Theory:
Assumption 1: Major trends are not manipulated by humans;
Assumption 2: Market indexes reflect all information;
Assumption 3: Dow Theory requires objective judgment.
*Three Major Axioms of Dow Theory:
Axiom 1: Market behavior encompasses everything;
Axiom 2: Market behavior operates in trends;
Axiom 3: History repeats itself.
*Three Types of Movements in Dow Theory:
Movement 1: The primary trend, which can last for years;
Movement 2: Correction movements, lasting weeks or months;
Movement 3: Short-term fluctuations, ranging from days to weeks.
*Three Phases of the Main Trend in Dow Theory:
Phase 1: Greed or fear;
Phase 2: Reflects actual fundamentals;
Phase 3: Fear or greed.
II. Experience of Dow Theory in Practice
1. On Judging Bull and Bear Markets
Dow Theory posits that a market is in a bull phase if the average index's peak surpasses the previous one; it enters a bear phase if the lowest point falls below the previous low. However, it's often difficult to determine if the major trend has ended since a reversal could just be a correction.
2. On Transition from Bear to Bull Market
According to Dow Theory, if a secondary rise in a bear market slightly falls after reaching its normal peak but does not hit the previous low before rebounding above the previous peak, it can be confidently stated that a fundamental bull market has formed, the length of which is indefinable.
3. On the Herd Mentality
Dow Theory suggests that if leading stocks rise without support from the rest, it indicates that the public is reluctant to buy. Once this situation clarifies, efforts to drive prices up usually cease.
4. On Double Tops
In most cases, Dow Theory believes that when a stock's price reaches a peak, it will moderately decline then reach a position close to the peak again. If the price falls after, the extent of the decline is likely to increase.
5. On Mirror Symmetry
Dow Theory maintains that the number of days the market advances and declines over a long period is roughly equal. If there's a continuous advancement, a period of decline is almost inevitable to balance it out.
6. On Divergence
Dow Theory asserts it's impossible to pre-determine the extent of any index trend, but the further it goes, the greater the reaction. This reaction increases the certainty of successful trading based on it.
7. On Market Manipulation
Dow Theory holds that successful, well-planned manipulations are rare and occur during bull markets because the market itself sees further than manipulators. Experiences from Wall Street and other markets show that manipulation is almost non-existent in bear markets. In major bull or bear markets, the forces that move the market are beyond the manipulator's control, although manipulation in short-term movements within these markets is possible but only affects individual or a few stocks.
8. On Understanding Laws and Human Nature
Dow Theory recognizes that market movements are never random and are always governed by certain laws, so vast that we might only glimpse their trajectory once or twice in our lifetimes.
III. The Philosophical Wisdom of Dow Theory in Investment and Speculation
In a bull market, there are no losers, and those squeezed out during a correction lose only a portion of their profits. At the peak of a bull market, many lose their ability to judge value, buying based on possibilities and subconsciously thinking they can pass the burden onto someone greedier, making them prone to harm.
Most investors are wrong from the start, fluctuating between hope and fear, holding on to losses, and quickly taking profits when the market meets their expectations. Compared to those who stubbornly hold or sell too early, opportunities always favor the more patient investors who act only when they are confident.
Great investors don't just consider if the public can drive up prices, but whether the asset's value they wish to purchase could be bought by investors and speculators at a 10 to 20 percent higher price in six months. While excellent speculators are often wrong, they do not blame others nor gloat over their wins.
Speculators can avoid financial distress by starting with a small investment, maintaining clear judgment and a relaxed, fearless demeanor despite losses. For short-term trades, psychological stress from a falling index indicates a speculative over-commitment; the uncertain nature of short-term markets means that only through gradual confidence building from trial investments can one confidently increase their stake, though risk of loss still exists. Therefore, one should plan their profit and loss thresholds beforehand, as long-term success can offset occasional losses.
Lastly, it's crucial to remember that Dow Theory's goal is not to win speculative games or offer an infallible investing method, but to provide investors with a vague correctness. For more information and techniques, please contact CWG's A'hai; ahaidanshenkeliao
