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THE DOW REPORT
Dow Theory Clears the Secondary Hurdle

This past week was an important week for the markets from a Dow theory perspective as the Secondary non-confirmation that had been forming has now been corrected. On January 11, 2006 the Industrials made a new recovery high. From that high point the averages turned down into short-term lows. It was from those lows that this non-confirmation began.

As you can see in the chart below, the Transports continued higher into their January 31^st high as price advanced out of the mid-January temporary low. This left a Secondary non-confirmation in the making. I said in the January 27th WrapUp that the challenge for the Industrials was to better the recent January high.

This past week, the Industrials did just that and the Secondary non-confirmation has been correct.

So, does this mean that we are in a new bull market? No, not quite.

This is a positive development and it does fit with the expected “First the Gain, then the Pain” outlook for 2006 that Jim and I have been talking about. But, it certainly does not mean that we are in a new bull market. The Primary non-confirmation still exists and the cyclical phasing later in the year turns down. A bit later in the year there are also some intermediate-term lows due and from that corrective move down the summer rally should then begin. It is that summer rally that I currently see setting the stage for the “Pain.” So, basically the correction of this Secondary non-confirmation allows the rally separating Phase I from Phase II of the bear market to continue a while longer.

In the meantime, there are indications that a shorter-term correction could be in the cards. As regular readers know, confirmations and non-confirmations between the Retailers and the Industrials are very important. I have marked recent non-confirmations between these two averages in blue and you can clearly see that these non-confirmations ultimately lead to short to intermediate-term corrective action. I have marked the most recent non-confirmation between these two averages in red. This initial hurdle for the Retailers is to better their November highs. Next, the Retailers will have to better their highs from last summer in order to completely mend this ongoing non-confirmation. If this occurs, great! But, until it does, these non-confirmations are reason to add a bit of caution into the now bullish Secondary Dow theory equation. In other words, the Secondary bull has a green light to proceed from a Dow theory perspective, but cautiously so.

Below is a chart of the Industrials verses the Nasdaq 100. Note that here too non-confirmations lead to intermediate-term corrections.

So, for clarity, yes, the mending of the Dow theory Secondary non-confirmation was a positive event. But, there are still much deeper seeded issues such as the Primary Dow theory non-confirmation and the Phasing aspects of Dow theory that remain negative. These deeper seeded issues probably won’t sprout until later in the year. Cyclically, I look for corrective action a little later in the year to produce the low from which the summer rally will begin. I then look for that summer rally to flame out and set the stage for “Pain” later in 2006.

Tim W. Wood

Please also see a special editorial by Tim Wood and Robert McHugh
A Dow Theory Primary Trend Warning
February 17, 2006

The specifics surrounding the chain of events that should occur in 2006 are covered in great detail in the February issue of Cycles News and Views. Should you be interested in the cyclical and statistical quantifications for gold, the dollar, bonds or the stock market, then visit www.cyclesman.com for information on the Cycles News & Views newsletter.

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