Bloodless Verdicts

"Accept the bloodless verdict of the markets," Christopher
Mayer counseled the attendees of yesterday’s "Money Show"
in Orlando, Florida.

In other words, as Chris explained in his fascinating 45-
minute presentation, investors should not rebel against the
stock market; they should anticipate its ‘verdicts.’

Chris, as editor of the Fleet Street Letter, anticipates
the market’s verdicts by investing in value-laden stocks
before the rest of the world recognizes their inherent
values. But Chris also respects – and incorporates into his
investment process – the venerable Dow Theory, the 100-year
old creation of Wall Street Journal founder, Charles Dow.

Chris is a unique guy. He’s both a delightful personality
and an annoyingly thorough professional. He’s like the A-
students we all knew in school who never showed up for
class without having done both the homework and the "extra
credit" problem. But despite his erudition, Chris
understands how to bridge the divide between pure theory
and real-world investment…which is also one of the unique
attributes of the Dow Theory.

Although the theory traces its origins back more than 100
years, Chris explained to the Money Show attendees, it is
not some financial relic. Rather, it remains an extremely
valuable and relevant investment tool.

The theory bases its observations on another Charles Dow
creation: the Dow Jones Indexes. Specifically, the theory
derives its signals from the movements of the Dow Jones
Industrial Average, relative to the Dow Transports and Dow
Utilities.

"All of Charles Dow’s work on the market appeared in
editorials published in his beloved Wall Street Journal
between 1899 and 1902," Chris explained. "Dow’s
observations contained many nuggets of useful information
and practical advice for trading. But they were only
loosely held together in his editorials and required
additional development."

Enter William Peter Hamilton, the fourth editor of the Wall
Street Journal. He’s the guy who put some meat on the Dow
Theory bones. "Over the span of 252 editorials, appearing
from 1903-1929," Chris noted, "Hamilton continued to push
the development of Dow’s ideas."

In 1922 Hamilton published "The Stock Market Barometer," in
which he observed, "What we [investors] need are soulless
barometers, price indexes and averages to tell us where we
are going and what we may expect." In the barren soul of
the Dow Theory, Hamilton had found his ideal barometer. It
wasn’t perfect, but it wasn’t too shabby.

"[Dow Theory] admits highly human and obvious limitations,"
Hamilton acknowledged. "But such as it is, it can honestly
claim that it has a quality of forecast which no other
business record yet devised has even closely approached."

The core tenets of Dow Theory are no less relevant today,
says Mayer, than they were in Hamilton’s era. "For
starters," he explained, "value is key. Dow Theory is not
just about a bunch of charts. Value considerations are
central to Dow Theory. All other considerations are
secondary."

But these secondary considerations are not to be ignored.
The theory also relies upon technical indicators like
volume, Chris explained. "Volume goes with the trend," he
said. "The simple idea here is that volume provides clues
to market direction…Expanding volume on the upside and
lower volume on the downside is the sign of a healthy bull;
conversely, low volume on up days and higher volume on down
days is generally bearish."

The ancient theory also relies upon the idea that the stock
market averages are a kind of mirror. They reflect, says
Mayer, "all the anxieties and uncertainties among
investors, and all facts and rumors." In other words, stock
price charts reflect the totality of investor knowledge and
emotion. The successful investor does not complain about
the reflection. He adapts to it. "In Dow Theory," says
Mayer, "we don’t argue with the market; we accept, as the
classic theorists often repeated, ‘the bloodless verdict of
the markets.’"

Even so, it is important to understand that the market does
not render its verdict all at once. It apportions its
verdict, bit-by-bit, in ways that often confuse investors.
Remember, says Mayer, "One day does not a trend make. Or,
as Hamilton put it, ‘One swallow does not make a summer,
and one rally does not make a bull market." Expressed in
Dow Theory terms, the stock market operates within three
distinct time horizons know as the "primary trend,"
"intermediate trend" and "minor trend."

The primary trend may run for several years, while the
intermediate trend may run for only a few weeks or months.
Minor trends unfold over a few hours or days. Because of
these nuances, the most successful practitioners of Dow
Theory readily acknowledge its fallibility. "It cannot be
said too often," Hamilton once said, "that the road to ruin
lies in dogmatizing on charts, systems and
generalizations…The Dow Jones Averages have a discretion
not shared by all prophets. They are not talking all the
time."

But are they talking now, we wondered? Are the markets
talking to us, or are we merely hearing voices again? We
caught up with Chris after his presentation to find out
what the market voices might be saying.

"Well, they aren’t saying too much right now," Chris
admitted. "I was hoping that the markets would send some
sort of crystal clear signal in time for this conference.
But no such luck. Instead, the picture is pretty muddled.
On the one hand, you’ve got a pretty bearish breakdown in
the Dow Industrials and Dow Transports. On the other hand,
the Utility Average is looking pretty strong. Net-net, I’m
pretty bearish. But I wouldn’t bet a lot of money on that
assessment."

"OK," your New York editor replied, "Let’s forget about Dow
Theory for a moment. Just tell me what you’re finding out
there in the big, bad world of investment…for better or
worse."

"Well," said Chris, "I don’t need to abandon Dow Theory to
answer your question. The U.S. equity market looks far more
bearish than bullish, both in terms of Dow Theory and in
terms of most other indicators…That’s the bad news. The
good news is that many hard-asset stocks remain extremely
cheap. I’ve been finding many attractive opportunities in
the hard asset area. Last month, as you know, I recommended
Agrium, a Canadian fertilizer company. This is the type of
idea I love: a cheap stock in a robust business."

"We keep reading about the boom in China," Chris continued.
"If that’s half as true as the papers say, the newly rich
Chinese will begin to eat more and eat better. Both of
these trends require fertilizer. Agrium’s in the right
spot."

"What else you got, Chris?"

"This month I’m writing up another value-laden Canadian
stock. This one’s a conglomerate selling for well below its
net asset value. The company produces various natural
resources, owns vast amounts of real estate and also owns a
bunch of hydro-electric dams. In other words, it’s got
terrific, income-producing hard assets. Yet the stock sells
for a steep discount to the value of those assets. I love
ideas like this one."

"What’s the name of that one, Chris?"

"I can’t tell you yet. It’s in the next issue."

"OK, I’ll be on the lookout."

Did You Notice…?
by Eric J. Fry

With Captain Greenspan at the helm, what’s to worry about?
As the seasoned skipper peers into the macro-economic
mists, his vision seems to penetrate well beyond the
visible horizon. He stands astride the poop deck of the
mighty U.S. economy – disdaining both sextants and
telescopes – and seems to navigate by sheer instinct.

So far, the captain’s instincts have kept the vessel safe
from the shoals of crisis and the sandbars of recession.
But we are not persuaded that past is prologue. We cannot
shake the fear that the S.S. Greenback may run aground at
any time. We concede that Captain Greenspan has, thus far,
transported his vessel safely. But that does not mean we
expect the voyage to proceed without incident.

Despite the ancient mariner’s considerable skills, a few
investors do not seem to trust his ability to guide the
U.S. Greenback to safe passage. They are not certain that
his hefty cargo of dollar-denominated debt will continue to
safely ply the seven seas. Some investors are buying gold –
or GLD, to be precise…the new gold ETF.

Ever since this ETF came to market, demand for this gold
proxy has been steadily increasing. Although the ETF came
to market as a $100 million minnow, it has quickly become a
much bigger fish. As the nearby chart illustrates, GLD now
hold nearly 5 million ounces of gold, worth about $2
billion. Interestingly, the demand has persisted, no matter
the gold price. Even though the price of gold price fell
during December and January, demand for GLD share
increased.

Apparently, somebody wants the stuff.

And the Markets…