This article was published by The McAlvany Intelligence Advisor on Wednesday, March 28, 2018:
Followers of the Dow Theory are having their faith in Wall Street’s oldest and most accurate market-timing model tested. Last week’s selloff triggered one of the last two indicators necessary for its followers to declare that the nine-year old bull market has ended.
Charles Dow never used his theory to trade stocks, but his followers have, with great success. It has outperformed the traditional “buy and hold” strategy by an astonishing 4.4 percentage points annually. Mark Hulbert, who watches the market watchers and publishes his results in his Hulbert Financial Digest, wrote that the key support levels to watch are 23,860 on the Dow Jones Industrial Average (DJIA) and 10,136 on the Dow Jones Transportation Average (DJT).
Near the close on Friday, the Dow broke through support, but the Transports didn’t. Monday’s astonishing rebound let Dow Theory true believers breathe again, and the early open on Tuesday gave them additional comfort. But at the close on Tuesday, the Dow broke support for the second time, closing at 23,857, a tiny breach of support but a breach nevertheless. But, once again, the Transports held support, closing 45 points above support.
Last week’s selloff was attributed to the president’s threat to impose import tariffs on aluminum and steel coming into the country from China. The mainstream media got it wrong, but the error wasn’t corrected until after the markets closed. The Washington Post said that Trump intended “to impose at least $60 billion in tariffs on Chinese imports.” Whether deliberate or not, the Washington Post should have said that Trump intended “to impose tariffs on at least $60 billion worth of imports, particularly imports of steel and aluminum.”
That’s a vastly different, more accurate, and less concerning statement. Trump’s original plan is to impose tariffs of 25 percent on Chinese imports of steel and 10 percent on Chinese imports of aluminum. Simply put, those tariffs, if imposed despite Mnuchin’s “hope” that an “agreement” (read: compromise) can be reached with the Chinese, would have negligible impact on American end users.
Here’s the math: assuming that steel and aluminum imports from China are $30 billion each, then the total tariffs imposed on those imports are $3 billion on aluminum and $7.5 billion on steel, for a total tariff of $10.5 billion imposed on American importers. This is much less than $60 billion and experts have translated the additional costs of them to American purchasers of new vehicles of about $300 per new vehicle. Since most of them are financed, with terms extending out to seven years or more, the increase in the monthly payment to an American buyer of a new car partially made of Chinese aluminum and steel is infinitesimally small.
But the selloff last week followed by Tuesday’s sharp end-of-day decline once again raised the spectre of a bear market. One of those is a perennial bear, the well-known “legendary” investor Jim Rogers who heads up Rogers Holdings, Inc. He’s been calling for a “top” in the market since last September when he told his audience that the next bear market will be “horrendous, the worst [ever].”
The market moved higher, and in November Rogers reiterated his concerns that the market was “overdue” for a massive correction. Again in February, following the sell-off in stocks, Rogers announced “When we have a bear market again – and we are going to have a bear market again – it will be the worst in our lifetime.” Rogers is 76 years old and he’s seen some.
But the market rebound on Monday from those February lows tested the Dow Theory as well as his patience. Rogers expanded on his warning: “I’m extremely concerned. I’ve read enough history and been through enough markets to know that trade wars are usually a disaster.”
Now comes Tuesday and another breach of Dow Theory support for the Dow and a Transports close less than 50 points away from its support. If that second support is broken, and Dow Theory says the bull market is over, just how bad could that bear market get? Ned Davis Research reports that since 1900 there have been 36 bear markets, averaging 403 days in length and losses in the Dow of 31 percent. Applying that to the top in January, a new bear market would take the Dow all the way back to where it was on Election Day in November 2016.
Although painful, that would then set the stage for a rebound in stocks, which, also according to Ned Davis, would take a little over three years to regain all the ground lost.
Underlying all of this, it scarcely needs mentioning, is the “new economy” that has been unleashed thanks to tax cuts (both personal and corporate), massive reductions in regulations (estimated to be 12 regulations cut for every new one promulgated), and the “tax holiday” on overseas profits. Those profits have been waiting for just such a time as this: 85 percent of the billions now being repatriated are going into new capital investments, expanding the economy and new opportunities for workers who are coming off the sidelines by the thousands.
If Dow Theory holds, and the market reverses to the upside once again, this will represent another buying opportunity for investors seeking to purchase American companies at a double-digit discount. If it doesn’t, and Wall Street descends into a bear market, those investors will likely have to wait a few years before their investment accounts return to where they were in January.