Technical Analysis Topic 2 Dow Theory

Dow was one of the earliest to describe trends in stock prices.

Dow described stock prices as moving in trends similar to the movement of ocean water.

He postulated three types of price movements.

(1) Major trends: They are like tides in the ocean. They bring water far onto the share and take it deep into the ocean.

(2) Intermediate trends: They resemble waves. They rise and fall and rise and fall as water is in up tide or in low tide.

(3) Short run movements: They are like ripples in water.

Followers of Dow theory attempt to predict the direction of the major price trend recognizing the idea taht intermediate movements in a direction opposite to the major trend keep appearing while the major trend is in progress.

According to Dow, in a major uptrend, each intermediate recovery will reach a new peak above the prior peak and this price rise will be accompanied by heavy trading volume. similarly, profit taking reversal or intermediate downtrend that follows an increase to a new peak should have a trough above the prior trough, with relatively light trading volume. When this pattern of price and volume movements change, the mjaor trend may be entering a period of consolidation or a major trend reversal.

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