Bearish Picture Gets Put to the Test

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The following is an excerpt from Richard Russell's Dow Theory Letters

Polonius to Hamlet: "What do you read, my lord?" Hamlet: "Words, words, words." -- William Shakespeare

And so it was last week -- a lot of words. Mario Draghi, new head of the EU bank promised that Europe would do "whatever it takes" to ensure that the euro remains a viable currency. As usual Draghi gave no detail's concerning how he would save the euro.

At the same time, Fed chief Bernanke stated that the Fed was monitoring the US economy closely, and that the Fed still had plenty of ammunition -- if, of course, it was needed.

On the Facebook front, Zuckerberg finally showed up at a FB meeting and stated to a highly excited audience, "Our goal is to help every person stay connected and every product they use be a great social experience." Nothing was said of real interest to anxious investors who were wondering how they would get their money back -- and after saying literally nothing of value, the Zuck bowed out.

It occurs to me that Bernanke and Draghi have been talking to each other, and between the two they have kept the optimists hoping and the shorts scared stiff. In the meantime, the markets have been playing "footsies" with the D-J Averages. As I write at midday, the Dow is only 200 points below its May peak, while the Transports are 187 points below their own May peak.

Thus, the Averages are positioned for an easy breakout to above the May peaks. But will it happen? Or is the bear playing with us poor investors?

I don't care much for talk, particularly aimless talk with nothing to back it.

So let's skip the talk and turn to the charts -- the charts are usually more important than the talk.

From a Dow Theory standpoint, I've been waiting to see whether the Averages might "take back" their ominous bear market signal. To do that, I've wanted the Industrials and Transports to better their May peaks of 13,279.32 and 5285.97 respectively. I have posted daily charts of the two Averages below, and you can see that, so far, the May peaks have not been bettered on a closing basis.

indu 27 jul 2012

tran 27 jul 2012

Further, I have included both a P&F and a bar chart of the D-J Composite, which includes all 30 D-J Industrials, all 20 Transports and all 15 Utilities. For some reason, the Composite often provides advance (early) signals, even before the D-J Industrials and Transports tell us anything.

You can see that the Composite has not yet broken out to new highs. A breakout would require the Composite to hit the 4550 box on the P&F chart. It may do so this week, but so far, this breakout has not occurred.

dja 27 jul 2012

Question -- What if the D-J Composite does break out to new highs? Bernanke and Draghi have talked the talk. The stock market never discounts the same thing twice-- particularly if its just talk.

Answer -- But if the composite does break out -- If that does occur, I will face a decision as to who or what to believe -- the Dow Theory OR the point & figure chart of the Composite. I can't remember ever being put in this difficult position before, but first -- let's see what happens. If the Composite breaks out to new highs, and is not confirmed by the two Averages, personally I'd prefer to sit tight. However, if the two Averages rally and close above their May peaks, I will be impressed, and at most, I may take a conservative and speculative position in the Diamonds (DIA).

In the meantime, I'd rather struggle with the Averages than try to interpret the chatter of Mario Draghi and Ben Bernanke.

The fact is that the entire world is deleveraging and deflating. And additional leveraging and inflating on the part of Draghi and Bernanke aren't going to turn North into South. A man can't live if he only inhales; nature and God demand that he exhale too.

Below is a bar chart of the D-J Composite. And I must say that the bar chart appears bullish. The May peak comes in at 4463, and if the Composite closes above 4463, I would consider the whole bearish picture as being put into question. But the action of the Dow and the Transports still bothers me -- or I should say the Dow Theory continues to bother me. Therefore the most I would recommend for bold traders is a token position in the Diamonds (DIAs).

dja 30 jul 2012

I continue to be fascinated by the ghastly action of Facebook. As you can see on the daily chart, FB has crashed 50% from its IPO high. The IPO buyers frantically paid up to 47 and more for the IPO, and with the stock now in the 23s, The early "jump and dump" crowd must now be wondering what to do with Zuckerberg's baby. It's obvious that today's holders are locked into the stock, a stock which is facing massive overhead supply. But what have we learned from this tragedy? We learn never to run with the crowd. We learn never to participate in a stock that's being massively hyped. We learn never to slap our whole wad on a stock that has no proven record of earnings.

Of course, nothing always holds true in investing. My son, Ryan, bought Apple at 22 when the company was almost broke. He bought it because he loved their styling. I argued against it, but Ryan bought it despite my protestations.

fb 30 jul 2012

Comment -- There are times when I think that the stock market is a practical joker, and it's playing with our minds. This is one of those times.

Some of the BIG money has been made by those who took a small position in a great concept stock -- and then completely forgot about the purchase -- only to find fifty years later that their small initial purchase had turned into big money. Back in the early 1990's, a lot of us bought gold mining stocks for a dollar or three. At that time gold shares were selling like perpetual warrants.

Ten years later those mini-mining stocks were selling in their 20s and 30s, and their owners were amazed.

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