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Line dancing

Dow goes "in the clear"

I realise that this probably seems like nothing more than a technicality. In some ways, that is exactly what it is. After all, the markets have not made any headway since the "in the clear" signal flashed up. The US indices, as well as the DAX and FTSE are mostly still wedged in the ranges in which they have traded since the start of the year. So, while the Dow Theory says that the bull market remains in force, it also admits that the indices are in a consolidation phase within that uptrend.

S&P lining up

The official name for such a phase is a "line". According to Jack Schannep, the father of modern day Dow Theory, a line is a price movement lasting at least two weeks during which both the Dow Industrials and Transports stay within a band of 5 per cent. A line can mean that the market is either gathering strength ahead of a breakout to the upside or undergoing distribution, whereupon a break lower is coming. A simultaneous movement out of the range by both indices will confirm which it is.

Reader WN has written in to say he thinks that distribution is the likelier outcome. "If the pattern is that the bulls are pushing a new resistance level and failing, you should expect the next thing is for the bears to move in and successfully take the market down to new lows. The Nikkei has already begun this, and I wonder if the US is soon to follow it."

For all I know, this may indeed be right. It is not hard to come up with a list of reasons why the market should go down, including bloated valuations, unimpressive earnings, negative seasonality, geopolitical tensions, the bull-run's longevity, the withdrawal of stimulus and so on. One blogger I follow ( managed to cite no fewer than 40 indicators that point to a major shorting opportunity on Wall Street, including the recent peak in solar activity.

Nikkei breaches key level

Long lists like these may seem very compelling. But they fall into the trap of what Charles Dow called "letting the wish father the thought". There may be a million reasons why we think the market ought to go down. Ultimately, though, the only thing that matters for now is the current trend. The Dow Theory says unequivocally that the trend is upwards. So does the even simpler - but yet effective - comparison of today's prices with the 10-month exponential moving average.

Tech holding up

Not only are the major indices well above their 10-month exponential averages, but those averages are themselves upwardly sloping. The S&P closed some 5.5 per cent above this EMA on Tuesday 6 May, the Nasdaq 100 and DAX some 3 per cent above theirs, and the FTSE 2.4 per cent above. Only the Nikkei 225 has actually breached this level on a monthly closing basis so far. I'm sticking to my bullish line, therefore.