Closing prices, line ranges and identification of trends (part two)

A famous tenet of Dow theory affirms that a trend persists until there is a clear evidence that it has reversed. Dow took this idea from Newton’s first law of motion, which states that an object moves in a given direction until a force modifies it. Likewise, the market tends to move in a primary direction until a force, e.g. a change in macroeconomic conditions, forces it to change the trend. A reversal in the primary trend is observed when the market is unable to create another successive “peak-and-trough” in the direction of the primary trend.

For a bullish trend, a primary trend reversal is identified by an inability by the trend itself to reach a new high, followed by the inability to reach a higher low. If so, the market has gone from a situation of successively higher highs and lows to one of successively lower highs and lows, which are the components of a bearish primary trend.

The same holds for a bearish trend. In this case, a reversal of a primary trend occurs when a pair no longer declines to lower lows and highs. This happens when a pair reaches a high that is higher than the previous one, followed by a low that is higher than the previous one, which are the components of a bullish primary trend.

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