Richard Russell, Dow Theory Letters, points out that yet another important technical signal has re-confirmed that we are now in a 'new' primary bear market. Russell wrote this note a few weeks ago after the November 2008 low was breached, and we thought that it is particularly worthwhile to revisit, because there is a great deal of substance to be garnered from true Dow Theory, and according to Russell, the market appeared to be ignoring the obvious danger ahead. Given this weeks prolonged slide, it appears that in this case the markets' fears have been rational, reasonable fears. Be careful out there. Here are his thoughts:
"I just went through 12 newspapers this morning. Not one mentioned the fact that under Dow Theory, the primary bear market was re-confirmed yesterday. I find that very ominous. In a multi-trillion dollar business, nobody knows how to read the market. Let's see whether Barron's says anything tomorrow. News travels across Wall Street in an instant".
"Did the recent great bull market start at Dow 776.92 in 1982 or Dow 759.13 in 1980? I picked 776.92 in 1982 as the start of the bull market. The bull market ended in October 2007 at Dow 14164.53. Turning to the 50% Principle, the halfway level of the entire bull market of 1982 to 2007 is 7470. Yesterday the Dow closed at 7466, 4 points below the halfway level".
"On this basis, the 50% Principle has turned bearish. According to the 50% Principle, if the Dow closes below the halfway level of the preceding major advance, the Dow can decline towards and even test the level from which the advance started. To do that, the Dow would ultimately have to test the area from which the bull market started -- that area was 776.92".
"Could that happen? I have no idea, but I'm merely relating the possibilities under the 50% Principle -- a study I learned from the great Dow Theorist, E. George Schaefer. But wouldn't a return to the Dow 776 area be catastrophic? I'm sure it would be, but a year ago who would have thought the Dow in February 2009 would be at 7468? The market is a law unto itself, and the market doesn't care about human triumphs or human misery. I'm merely repeating stock market mechanics as I know them".
"One of the mechanics is the 50% Principle. The monthly chart follows the Dow from it's bull market beginning in 1982 to the present. The horizontal red line identified the halfway level of the great bull market. As I write, the Dow is below the 7470, the 50% level. Not a pretty picture, but it's reality.The Dow is now fluctuating around the 50% level. This is a level so critical that it would not surprise me to see the Dow hesitate and flounder around in the 7470 area. This will serve to confuse and even encourage investors ("maybe we really are at a bottom")".
"My advice, don't let the market fool you. The path of least resistance continues to be down. Banks -- I find it hard to imagine the market turning bullish while the banks remain in trouble. I've been watching BKX, the banking ETF, which continues to slump to new lows. Worse, MACD is about to give us a new bear signal as the histograms sink into negative territory".
