Initially, principles of the Dow Theory were used only for the American
indices created by Charles Dow: Transportation and Industrial. Most of
them, however, can be successfully applied to the foreign exchange
Indices discount everything. According to Charles Dow any
factor which influences demand and supply will be reflected in the
index. These factors cannot be foreseen but nevertheless they are taken
into account by the market and reflect index behaviour.
three movements on the market. Uptrend is characterised by the fact
that every following top is higher then the previous one and every next
bottom is higher then the previous one. Downtrend is characterised by
the fact that every following top is lower than the previous one and
every bottom is lower than the preceding one. When the market is in the
flat position every next move (up or down) is approximately at the same
level as the preceding one:
Dow classified market trends as follows:
primary trend (it is called a broad one and lasts from anything less than one year up to several years);
trend (it lasts from three weeks to three months and is considered as a
correcting trend to the primary one. These in-between rebounds are
one-two thirds (or even half) of the range prices move during the
daily trend (a short-term movement within the secondary trend, which has very little long-term forecasting value).
Another classification was suggested by Thomas DeMark:
short-term trend (if the price has moved less than 5%);
mid-term trend (if more than 5% but less than 15%);
long-term trend (if more than 15%).
designed a forecasting method to predict the beginning of a trend, both
mid-term and long-term. The method is based on the specially designed
The primary trend has three phases. During the
first phase all unfavourable market information has been discounted by
the market and the far-sighted and better informed traders start to
buy. The second phase starts when the traders who do technical analysis
enter the market. Once all economic data becomes more favourable, the
third, final phase begins, which is characterised by high activity on
the market supported by the mass media and optimistic economic
forecasts in the newspapers and on TV. Despite the positive sentiment,
the final phase is the first sign that the prevailing trend is about to
Indices must confirm each other in order for the signal to
have authority (referred to Industrial and Rail (or Transport)
indices). Charles Dow said that any significant uptrend or downtrend
signal on the market must be considered together in the Industrial and
Rail indices. If we applied this principle now on the basis of modern
technical analysis, it would mean that a signal from one technical
indicator must be confirmed by a signal from another technical
Trade volume must confirm the prevailing trend. If
prices move in accordance with the prevailing trend, it increases the
volume and inversely, when there is a rebound, volume decreases.
primary trend remains intact until a change in that trend has been
given by the theory. The last major signal remains in force until a new
signal develops. Many analysts believe that a bull market must always
be moving to new highs. However, the market can undergo extended
periods of sideways or lackluster trading without the primary trend
changing. If the last major signal under the theory is bullish, the
primary bull market trend remains in force until a bear market signal
is given. Trend Lines and Trend Channels
Trend is a general direction of the price.
do not only rise or fall but most of the time they actually move in
narrow ranges. So, in accordance with the Dow Theory we can therefore
divide trends into three types:
"bull" (or "uptrend") - prices rise;
"bear" (or "downtrend") – prices fall;
(or "sideways") – prices are in a narrow range. As a general rule,
market consolidates prior to a rapid price rise or fall.
all, it is very important to determine if the market is uptrending or
downtrending (this can be done with the help of trend indicators and
trend lines or channels) and if the prevailing trend is strong or weak
(with the help of oscillators and charts patterns).
Uptrend line in MetaTrader
means that every next bottom is above the previous one, and every next
high is above the previous one, so in this case, the trend line is
drawn between bottom points. Obviously a trend line created by joining
only two points will be less effective than a trend line created by
three or more points.
Downtrend line in MetaTrader
means that every next bottom is under the previous bottom and every
next high is under the previous high, so in this case, the trend line
is created by using the highest points.
Any trend (bullish or
bearish) must be confirmed by trade volume. Put it simply: when prices
move in accordance with the prevailing trend, the trade volume
increases; when prices move against the prevailing trend (rebound),
then trade volume decreases. Once the situation changes and trade
volume during rebounds becomes greater than that during the trend price
movement, it is a serious signal that the trend may not be so strong
(but it is not the signal to open the opposite position, as there is no
confirmation of the trend reversal).
Flat trend line in MetaTrader
Flat Market means that every next bottom or high is at the same level
as that of the previous bottom or high. In this case, the trend line is
drawn by joining both bottoms and highs.
In order to draw a trend line in MetaTrader 4 press the button on the "Line studies" toolbar:
Line studies toolbar
the mouse cursor to the first trend line point, click and hold the left
mouse button to draw the line to the second point. Once you have done
this, release the button. If you wish to highlight the trend line, just
double click on it. Right-click on the highlighted object to enable the
There are two types of trend lines in MetaTrader 4: vertical and horizontal trend lines.
the help of a trend line you can identify the moment when the trend
will change. Once a trend line has been broken, chances are that the
trend has just changed its direction or its strength has started to
Sometimes the trend line is broken by a bar low or high,
and the price continues to move in the direction of the current trend.
There are many methods to define if a breakout is true, hereafter are
the most popular :
Trend is your friend - do not open positions against the prevailing trend.
The primary trend remains intact until a change in that trend has been
given. Trend line breakout is one of the most important signals that
the trend may reverse.
Do not try to open positions against the
prevailing trend hoping that the trend is weak and that the reversal
point is not far away. In most cases price sweeps through your Stop
Loss order and only subsequently does the trend reverse.
A Stop Loss order should be placed below an uptrend line (or above a downtrend line).
Demark made his contribution to the theory of trend lines. According to
his theory, trend is rooted in two critical points through which the
trend is drawn. He called these points TD-lines (his name, Tomas
Demark, abbreviation). These points are defined at the basis of extreme
lines are a significant part of trend analysis. Channel lines are like
boundaries for price fluctuations. To create a channel line, draw a
parallel straight line next to the trend line: one of them joins price
chart highs, the other price chart lows:
Channel lines are used:
To point out where to fix profits and losses. If there is an uptrend
channel, Take Profit order may be placed under the upper line and Stop
Loss order under the lower line. If there is a downtrend channel, Take
Profit order should be placed above the lower line and Stop Loss above
the upper line.
If the price does not touch the upper line of the
uptrend (lower line of the downtrend) this signifies that the
prevailing trend is weak.
In order to create a channel line in
MetaTrader 4 double click the left mouse button on the trend line,
press and hold the Ctrl button and drag the newly created parallel line
to its place on the chart. Then release the Ctrl button.