The main ideas of the Dow Theory which are relevant for an FX trader

Discussion in 'Forex - Currencies Forums' started by Daniela-TFC, Jul 17, 2014.

  1. Daniela-TFC

    Daniela-TFC Active Member

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    Do you know how a trend is defined? Is it a trend line connecting highs and lows or a moving average which is defining a trend? The answer is: No.
    The person who first defined a trend was called Charles Dow.

    The analysis method called nowadays “Technical Analysis“ has its foundation in theories first introduced by a certain Charles Dow around one hundred years ago. His studies were primarily on the US stock market but his findings became relevant for every modern technical analyst and technically oriented trader.

    Dow believed in the idea that the price value of an equity index discounts everything. All factors which determine supply and demand for stocks are reflected in the price. That makes fundamental analysis irrelevant.

    Think about it – How many times have you seen a retracement in a stock beginning a few days before a negative corporate news was published…Dow believed that everything is discounted in the current price of a stock.

    Furthermore he stated that the market has three different trend periods. A primary (long term) trend, a secondary (medium term) and a subordinated trend (short term). An uptrend is defined by the fact that every relative high is higher than the previous relative high. Accordingly every relative low has to be higher than the previous relative low. The below chart of USD/CAD illustrates this pattern of higher highs and higher lows in an uptrend which fulfills the criteria of Charles Dow.

    A trend remains in place until this pattern of higher highs and higher lows is broken. While there might be a countertrend reaction the overall trend remains intact. Dow called countertrend reactions “market noise” (temporary moves against the dominating trend).

    Signals generated by the Dow Jones Index and the Dow Transportation index have to confirm each other. The transportation index contains major railroad stocks, shipping companies, and air line stocks. If any of the two indices fails to make a new high this would be considered as a so called “bearish divergence”. This is secondary for you as a forex trader but you should keep in mind, that Charles Dow was the first person who defined a “trend” by objective measures of higher highs and higher lows.

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  2. dianethare

    dianethare Senior Investor

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    Thank you Daniela for the informative post, good to know that Charles Dow was the first person to define 'a trend'....is it how the name got extracted to Dow Jones Index?
     
  3. Daniela-TFC

    Daniela-TFC Active Member

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    He is one of the founders of the Dow Jones Industrial Average (DJI). You will find here the Dow Jones history.
     
  4. bulding

    bulding Member

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    One of my favorite things about FOREX is that trends can just last and last no matter who is in charge of running the economy. I mean, does anyone think Russia's economy would improve anytime soon even if Vlad were to be replaced somehow tonight? Does anyone think the dollar is going to tank soon, for that matter? (If you answered 'yes' to any of these questions, please visit a friendly psychiatrist :p) Meanwhile, guess what would happen to Tesla's stock if an unexpected event were to befall Musk?
     
  5. JR Ewing

    JR Ewing Super Moderator Staff Member

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    The volatility of many stocks (both up AND down) is one of the main reasons they are my favorite (though not only) investment vehicle.

    And many stocks are usually quite stable, and I personally tend to not invest in those so much. But many people who are older or more conservative like stability and also like steady dividend / interest income many of the older, more mature companies offer.

    Transaction costs, STCG taxes, and realized losses should be considered. As should emotional stability, aptitude, and time allocation - a 45 year old surgeon making $1 mil a year probably won't want to retire early just to spend 50-60 hours a week on investing / trading, and would probably be ill-advised to do so.
     

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