Richard Russell on the Dow Theory

The Dow Theory as Interpreted by Richard Russell(June 22, 2002) *(thanks to market thoughts)

http://www.investmentrarities.com/archives.html#rr (one of my favorite sites, it has portions of essays from quite a few writers)


Friends of mine know that I am a genuine "fan" and student of the Dow Theory. I have read past writings by Charles H. Dow, William P. Hamilton and Robert Rhea, and I believe today's premier interpreter of the Dow Theory is Richard Russell (see article below).
I believe the primary consideration for the Dow Theory is VALUES. Following the bullish primary trend is all about buying stocks at a great value at the beginning of the bull market (that will be 1982) and holding on until the end of the bull market (early 2000). Everything else is secondary.
According to Richard Russell, the greatest bull market in history ended in September 1999 (he called it back then - not now). He also states that we are nowhere near the end of the current bear market (which I would independently agree with even before reading his commentaries). When this bear market ends, common stocks would be trading at "great values."
So how does one define "great values?" S&P 500 P/E ratio 10? 8? 6? Dividend yields of 5%? 7%? Dow Jones Industrials at 1,500 or 3,000? Dow-to-gold ratio at 1? FYI, based on the 1930's and the 1970's bear markets, this current bear market will probably end when we reach some of the above levels. Right now, the S&P 500 P/E ratio is at 40, dividend yields are less than 1.5%, and the DJIA's latest close is 9,253.79. We are nowhere near close.
The above are mere yardsticks, of course. If the stock market has taught me anything, it is that there is never a price that is too low or too high. For all I know, the Dow, at its low, could decline another 90% from here. Who would've thought five year ago that the market cap of Yahoo would've been twice the market cap of GM at the height of the bull market? Or Enron declaring bankruptcy? Or how about imagining the Nasdaq losing 70% of its value in 18 months while you were counting your winners back in the spring of 2000? I remember being called a lunatic back then when I was telling people that the 18-year bull market ended on April 4, 2000 - the day the Nasdaq had an intraday crash of 15% or 575 points. When it comes to the stock market, nothing is impossible. The arrogant, ignorant, stubborn, and stupid gets killed, and unfortunately when it comes to the stock market. probably over 80% of the population has all four traits.
Rather, all the phases of the bear market are identified not by rates of decline nor by P/E ratios, but by a condition in investors' psychology. The three phases of a bear market are: Denial, Hope, and Capitulation. Judging by what I have been seeing, we are currently still in the second phase. The bear market will only end after the Capitulation phase. This is the phase when every segment of the population decides to give up and sell - whether it's a Dow 30 stock, a Nasdaq 100 stock, a pharmaceutical or consumer durable stock (so-called defensive stocks), a financial stock, or even the latest stars such as security stocks, or REITs such as NFI and AXM. The third phase is the scariest phase. It is a phase when anything that can go wrong will go wrong. Not unsimilar to the late 1990's but in reverse. These are just some guesses but I believe gold will soar over the 1980 high of $850, the real estate bubble will (finally) pop, unemployment will be near or over 10%, and the DJIA will crash below 5,000. One thing is guaranteed, though: this bear market will be more devasting than any of us has or will be able to fathom.
For people who have been out of the market, though, this should be welcomed. During the third phase, pessimism will be rampant. People who have been proclaiming Nasdaq 6,000 back in 2000 will be proclaiming the death of the stock market. Again, don't listen to them. This third phase represents the cleansing out of the last stubborn "investors" (I call them gamblers), and after these people have sold out, a secular bull market will begin again (this has to happen, by definition). Values will be rampant and I will guarantee you would be taking an early and comfortable retirement (for those of us who are currently aged 30 or below anyway... hmmm...) if you do manage to get in at that time (just make sure you don't buy any of the crap called Cisco, Oracle, Intel, etc.).
Or let's put it this way: Former boss of mine told me over lunch a few months ago that some people were asking him when was the right time to get into stocks again. He related this question to me. I don't think I ever answered that question. Ironically, the best time to buy stocks would be when those same people who asked you that question are not asking that question any longer. In other words, when no one is buying stocks, that would be perfect opportunity to buy them. The difficult part would be knowing which stocks to buy (index funds are always safe but I would not buy stocks such as Microsoft, Intel, Cisco, Oracle or Yahoo ever again - the leaders in the former bull market will not be the leaders in the new bull market).