Lesson 1
The Principles of Dow Theory, Understanding Bull and Bear Markets
The Dow Theory is still the foundation of chart interpretation and applies equally to stocks, financial markets, commodities, and the wide variety of investment vehicles used to trade them.
Charles Dow was the first to create an index of similar stocks—the Industrials and the Railroads in 1897–these are now the Dow Jones Industrial Average and the Transportation Index The purpose of the index was to smooth out erratic price movement and find consistency by combining less active stocks.
Dow determined that the stock market moved as the ocean, in three waves, called primary, secondary, and daily fluctuations. The major advances and declines, lasting for extended periods, were compared to the tides. These tides were subject to secondary reactions called waves, and the waves were comprised of ripples.
The Basic Tenets of Dow Theory There are six fundamental principles of the Dow Theory that fully explain its operations.
1.The Averages Discount Everything
2.The market Has Three Trends
3.Major Trends Have Three Phases
4.The Averages Must Confirm Each Other
5.Volume Must Confirm the Trend
6. A Trend Is Assumed to Be in Effect Until It Gives Definite Signals That It Has Reversed.
