We made a big point about the failure of the Dow Industrial Index to confirm the new high made by the Dow Transportation Index in May. We had good reason for concern, as you can see from the chart (arrows at the left). The transports made a higher high on July 7, but the industrials failed to do so. Within a few weeks of the failure, the market gave up more than 15% and did not recover until October.
After the lows they made together on October 4, the indexes broke above the series of highs they had previously made in August and September, and they continued to move higher together. New recovery highs were reached in late October, in December and again on February 22 (arrows).
The Dow Industrial Index continued higher and has now recovered more than it lost. It even took out the May high that it had failed to match in July. However, the Dow Transportation Index started to diverge from the industrials (dotted lines), and according to Dow Theory, unless it makes a new high, we should expect the market to head south.
We have also noticed that rail traffic has declined, and the sale of diesel fuel has plunged in the last several months. This gives us reason to question the market's rally. Our concern deepened as the price of oil kept rising, because that puts considerable pressure on transportation stocks, and on the Airlines, in particular.
All of a sudden last week, after the one-day drop on March 6, the transportation stocks added 6.0%, while the industrials rallied just 3.7%. This brought the transportation average to within just 0.3% of a new high, and when that high at 5351.32 is reached, it will confirm the recent high made by the industrials.
The index gained 170 points on Thursday due mostly to gains in the Rails and the Airlines (Union Pacific was responsible for 29 points). On Friday, the Airlines gave most of it back, but the rails did not.
The industrials are higher than they have been at any time since 2007 while the transportation stocks are lagging. The transports are still below their July 7 high of 5618.25. However, according to Dow Theory, there will be a buy signal of some significance when the transports simply confirm the February high at 5368.93. And it will make it likely that they will go on to 5618.25.
The first goal is only 18 points above Friday's close and it is important, but even more important than reaching this new high would be a failure to do so. A failure will make it likely that the index will test its March 6 low of 5047.25, and possibly trigger a general market retracement.
— Fred Goodman, a registered investment adviser and Certified Financial Planner, publishes MarketMonograph, a daily Web-based subscription service specializing in technical stock market analysis and the application of economic indicators to market timing. You can reach him at email@example.com.