This blog posting is part of a three-part series that unveils modern Dow Theory by explaining its genesis, evolution, and permutations while identifying competing ideas and controversial findings. The series will conclude by giving the reader a sense of the direction Modern Dow Theory is headed and how it can be applied practically with examples.
A lot of academic attention has gone into, and continues to go into, Modern Portfolio Theory, or MPT, and perhaps rightly so. As part of the CMT exams, MPT is a critical aspect for a student studying technical analysis and any acolyte who hopes to one day manage large swaths of the wealthy’s wealth.
Modern Portfolio Theory, while not contrary to Technical Analysis, is on the opposite wave length of the study. On one hand, you have the rigidity and exacting science of MPT, while on the other you have the creative and playful “artful science” that is open to vast differences of interpretation otherwise known as Technical Analysis. Nevertheless, MPT plays an important role both to MBA students and apprentices and masters of the markets. Though it is perhaps worth highlighting that the “T” of “MPT” stands for “theory.” While theory has several definitions, the theories in which I am relaying for the purpose of this article are actionable theories:
“Ideas used to account for a situation or justify a course of action.” -Merriam Webster
In any conversation in which discussions of theories dealing with financial markets take place, it always worth mentioning what is in my opinion the Primal Theory of markets, otherwise known as Dow Theory. Without Dow Theory, no basis or justification for investment could ever be made except for mere chance. Long considered the foundation of Technical Analysis, Dow Theory was discovered by the Father of market analysis himself, none other than Charles Dow.
PRIMAL, adj. – “of, relating to, or denoting the needs, fears, or behavior that are postulated (especially in Freudian theory) to form the origins of emotional life.” -Google Dictionary
Dow Theory has its origins in price history charting, utilizing a method of analysis known simply as “peak and trough analysis.” It is this simple method of measuring the a trend that made Mr. Dow famous, and together with Edward Jones, they published analysis and market insights for 20 years on Wall Street through the company they co-founded: Dow, Jones, & Company.
In today’s conversation, Dow Theory is often referred to as “dated,” or “an old indicator.” In the next posting, you will see why Dow Theory is more modern and relevant than it has ever been, and how being on the wrong side can cost you for many years, even decades. It must be remembered that both Dow and his business partner, Edward Jones, were committed to provide truly unbiased, objective market analysis that average Americans could take to the bank with them. It is in this spirit that Technical Analysis was born and which it remains, making itself available to anyone with the grit and passion to utilize it advantageously and attain greater degrees of financial freedom.