Dow theory (part one)

The Dow theory is one of the pillars of the technical analysis. It origins in the theory formulated in a series of articles written by Charles H. Dow and published on The Wall Street Journal (The Dow Theory, 1932). Dow basically stated that all the financial asset values reflects the underlying fundamentals and market conditions. By analyzing those conditions and factors, it is possible to identify the direction of major forex market trends. Two of the main tenets of the Dow Theory are the following:

1. Primary and secondary market movements

Primary movements of the market are commonly labelled as ‘bullish’ or ‘bearish’ and represent the general market trend. Temporary fluctuations are labelled as secondary movements, which are shorter in terms of time period and typically go in the opposite direction as primary movements. For instance, a secondary movement during a bullish phase is referred to as ‘market correction’. Daily fluctuations vary greatly depending on several factors, from fundamentals (e.g. macroeconomic data) to technical ones (e.g. oversolds). The forex market continues to move in the same overall direction until or unless a primary trend change takes place.

2. Phases of primary trends

Accumulation – characterized by informed investors entering the market
Mass Participation – characterized by a revival of massive public interest in a currency pair. It continues until strong speculation occurs.
Excess – it occurs when the ‘first-mover’ investors begin to distribute their proceeds to the market. A ‘bearish’ market operates inverse to a ‘bullish’ one.

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