Weekly Market Wrap: 15 March 2013 – Dow transports finally confirm the industrials

This regular column reviews several different markets including: stocks, commodities, currencies and precious metals. This week focuses on the Dow industrials vs. the transports, the US dollar, and the junior gold miners fund (GDXJ).

Stocks

Dow industrials vs. transports

The Dow Jones Industrial Average was devised by Charles H. Dow in 1896. Originally containing just twelve companies, Dow calculated his average by tracking the closing stock prices of each company, adding up their prices, and dividing by twelve. A year later he devised an average for railroad stocks, the Dow Jones Transportation Average.

The industrial index quickly became a popular indicator of stock market activity, and by extension the health of the US economy. However, Dow realised that a healthy economy and stock market was one in which new highs in his Industrial Average needed to be confirmed by new highs in his Transportation Average. That’s because as the profits of the goods manufacturers rose it meant that they were producing more goods, and in a healthy economy that would also mean greater profits for the railroad companies.

If goods were being produced but not shipped, the two averages would not confirm one another, something which served as a warning to investors.

Dow developed his theory, which later became known as Dow theory, at a time when the US was a growing industrial power, and although manufacturing is much less important to the US economy today, Dow theory is still followed by many technical analysts.

As the chart below shows, for a large part of 2012 the Dow Jones Industrial Average (blue line) was breaking to new multi-year highs, while the Dow Jones Transportation Average (purple line) was not.

In the last two months of the year, however, the Dow Transports began to play catch-up, and in the middle of January this year the index, which includes Delta Air Lines, FedEx and UPS, broke to new all-time highs.

A 6 year (daily) chart of the Dow Jones Industrial Average + the Dow Jones Transportation Average Click on the chart for a larger version)

A 6 year (daily) chart of the Dow Jones Industrial Average + the Dow Jones Transportation Average Click on the chart for a larger version)

Chart courtesy of stockcharts.com

According to Richard Russell, author of the Dow Theory Letters, Dow Theory gave a bullish confirmation on 18 January, and the Transports and Industrials are now moving together.

In a 28 February article Russell wrote, “I’d have to say that this is a market that has had every opportunity of going down, but it’s a market that has no intention of heading south… It’s the oldest story on Wall Street – when a market refuses to go down, it takes the other direction – and it goes up.”

Commodities & Currencies

The US dollar

Since all industrially traded commodities are denominated in US dollars, the fortunes of the greenback have a significant bearing on the performance of commodities.

For almost a year the US dollar has been range bound with minor resistance at 81, major resistance at 84, and major support at 78.60. As the chart below shows, the US dollar has managed a sustained rally since the start of February which has taken it through 81.

A 1 year (daily) chart of the US dollar index (Click on the chart for a larger version)

A 1 year (daily) chart of the US dollar index (Click on the chart for a larger version)

Chart courtesy of stockcharts.com

Although the dollar is undoubtedly overbought, there is little sign that the rally is about to reverse. The MACD indicator, which made a positive cross shortly after the rally began (blue arrow), is yet to turn down and the stochastic oscillator (circled) is also inconclusive.

If the rally in the US dollar continues, perhaps making a retest of 84, it will continue to weigh heavily on commodities, particularly the precious metals.

Precious metals

Junior Gold Miners Fund (GDXJ)

While other gold stock indices continue to selloff, the Market Vectors Junior Gold Miners ETF, GDXJ, has begun to shows some signs of a bottom.

As the chart below shows, in early March the relative strength index (RSI) showed positive divergence, something which often indicates that a trend change is on its way. Shortly afterward the index, which tracks 79 small-cap gold mining companies, including Silvercorp Metals, Sandstorm Gold, and Continental Gold, rallied on decent volume.

A 1 year (daily) chart of the Market Vectors Junior Gold Miners ETF GDXJ (Click on the chart for a larger version)

A 1 year (daily) chart of the Market Vectors Junior Gold Miners ETF GDXJ (Click on the chart for a larger version)

Chart courtesy of stockcharts.com

The index is now sitting above its 20-day moving average (circled) which should now provide support. The next hurdle is the 50-day moving average (red line), followed by the 200-day moving average (green line). The 200-day moving average is significant because it has recently provided considerable overhead resistance (blue arrows).

It’s too early to call a bottom on the GDXJ, just as it is with gold itself, however the recent price action is constructive.

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