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2005: A Downbound Range

As we look toward the New Year, we also need to look back at the last year and realize it has been a year with little market movement. The Dow Jones Industrial Average in particular has been restricted to a very narrow trading range. Moreover, that trading range developed after a very large advance in the prior year, 2003. So the market had, and still has, the appearance of a consolidation after a big advance.

Normally one would say that such a consolidation is a standoff, with little indication of future direction. However, as I have shown in my book Trading Without Fear , we need then to look at the way volume has behaved during the consolidation. If it is a resting area before going higher, volume is likely to taper off as the consolidation progresses. If the volume stays the same, or increases, it is much more likely to lead to a change of direction to the downside. That is one factor that suggests we are near a high point in the markets, and that the next big move will be down, not up.

Another consideration is the realization that the markets appeared to end a huge secular bull market at the end of 1999. Since then we have been in a sideways market for four years. If we can use history as a guide, it would seem that we are in a phase such as we saw between 1934 and 1950, and between 1966 and 1984. If so, the market is likely to be restricted to a broad trading range for a few more years. I see that range as between about 7500 and 12,000 on the Dow, and right now we are much closer to the top of that range than to the bottom. Therefore, it would seem as though the odds are in favor of lower rather than higher prices over the months ahead.

Click here for larger image.
Source: Metastock

Click here for larger image.
Source: Metastock

(To do my Equivolume charting, as in the charts that appear in this column, I use a charting program called MetaStock . To learn more about this method, read my series of columns, Trading With Equivolume.)

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Richard Arms is a renowned stock market technician who invented the Arms Index (often referred to as the TRIN), which has become a mainstay of market analysis, appearing in The Wall Street Journal and Barron's. Arms also developed the widely used technical method Equivolume Charting. Since 1996, he has been publishing the Arms Advisory newsletter for money managers and financial institutions. He also has authored four books, including Profits in Volume and Trading Without Fear, and has been honored with the Market Technicians' Award for Lifetime Contribution to Technical Analysis. At the time of publication, he had no positions in stocks mentioned in this report, although holdings can change at any time. Under no circumstances does the information in this commentary represent a recommendation to buy or sell stocks.

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