Last week, I continued to give the all clear sign for the stock market based on Dow Theory. As I indicated, Dow Theory involves to of the major stock market averages…the Dow Industrials and the Dow Transports.
In bull markets, we like to see both averages moving up together in general. The Transports have a tendency to begin moving lower ahead of the Dow Industrials, as the stocks that make up the average are a bit more sensitive to economic cycles.
The Transports hit a peak in late 2014 while the Dow Industrials continued to make new highs into the Spring of 2015. The market then struggled and ultimately, experienced a 15% correction, or thereabouts. Some major averages cratered even further, such as the Russell 2000, which experienced a drop of over 25% from its highs.
The Dow Transports have just flashed a yellow light for the market after a dismal week which saw the average decline over 2.5%, while the Dow Industrials achieved new all time highs.
On Thursday, the Transports dropped 294 points, and just over 3% on that day alone, before rebounding a bit on Friday.
The average has now made a two month low in price, which is a clear divergence from the Dow Industrials. However, it will take more of a break from here to put out the red alert signal.
We are now entering the weakest period of the year for the market, as August and September tend to be difficult months for the stock market.
If the Transports continue to falter from here, traders will likely need to be very cautious about entering new positions, and adding to existing positions.