Here’s How Far a Vulnerable Dow Jones Industrial Average Could Tumble

The market-leading blue chip index isn't quite as strong as it seems and could reverse course -- in a big way and in a hurry

By James Brumley, InvestorPlace Feature Writer

To say the market, and the Dow Jones Industrial Average (INDEXDJX:.DJI) in particular, have been strong of late would be something of a understatement. The Dow today is right around 23,350, up an impressive 8% since its early September low, and a whopping 29% over the past 12 months.

Here's How Far a Vulnerable Dow Jones Industrial Average Could Tumble
Source: Shutterstock

That’s a better performance than the S&P 500 Index (INDEXSP:.INX) has mustered; it’s even outperformed the NASDAQ Composite (INDEXNASDAQ:IXIC) despite major rallies from NASDAQ components names like NVIDIA Corporation (NASDAQ:NVDA) and Netflix, Inc. (NASDAQ:NFLX). Netflix shares are up 55% year-to-date, and NVIDIA has gained 88%, carrying the composite to a year-to-date gain of right around 27%.

It’s a move that some lucky investors have been smart enough to ride, despite the odds otherwise. On the other side of the fence, a handful of trades are kicking themselves for missing out on it, even mulling jumping into the Dow Jones today — via the SPDR Dow Jones Industrial Average ETF (NYSEARCA:DIA) — or one of its constituents in fear of missing out on anymore upside.

That may prove to be a bad bet, however. Not only is the Dow not quite as strong as it seems, it could be itching for a sizable correction.

Pushing the Dow’s Limits

They say a picture is worth a thousand words. And, “they” are more or less right, particularly when it comes to the stock market. A chart of a stock or an index can tell you a great deal about how investors’ opinions have changed over time, and how rapidly they’ve changed, for better or for worse.

With that as the backdrop, take a look at the weekly chart of the Dow Jones Industrial Average below. Though the 7.5% advance over the course of the past six weeks isn’t unusual (we’ve seen three other similar moves since late 2016), it’s also noteworthy that moves of this size rarely follow through.

Dow Jones Industrial Average
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Part of the typical post-rally stall is usually just a case of the normal, psychological ebb and flow of stocks; traders run hot and cold. In this particular case though, a stall — and perhaps even a pullback — is likely because of the underlying nature of this particularly run up. See, it was driven by only a handful of the Dow’s names, most of which are now vulnerable to a pullback.

The graphic below tells the tale. Had it not been for Boeing Co (NYSE:BA) and Caterpillar Inc. (NYSE:CAT), the DJIA wouldn’t be where it is year-to-date. And, had it not been for International Business Machines Corp. (NYSE:IBM), the last week or so wouldn’t have been such a winner for the index.

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Dow Jones Holdings Performance

It’s a problem simply because all three names are vulnerable to short-term pullbacks, even more so than usual. If they trim gains, they’re going to do some damage to the index itself, and the gauge is already vulnerable to some profit-taking.


And if, for some reason, President Trump’s tax reform plan isn’t put into place, the tide could turn in a hurry; much of the recent rally was also predicated on that relief.

Looking Ahead for the DJIA

As for how far a pullback could drag the index down, that’s anyone’s guess. The last several stumbles have done minimal damage to the Dow before it regrouped, and we have to assume the same is in the cards this time around. On the flipside, we also have to concede the market’s gone too long without a major corrective move, and one’s coming sooner or later.

In other words, we have to be prepared in case the next stumble is the big one we’ve been sidestepping.

As for where the bleeding might stop if and when it starts in earnest, keep an eye on both the 100-day (gray) and 200-day (green) moving average lines. They’re around 21,928 and 21,259, respectively, right now, but both are on the rise. Each has served as a support level in the memorable past. Beyond that, as scary as it may seem, there’s a major Fibonacci retracement line at 20,350 waiting to be revisited. That’s a natural pullback level based off of the 2015/2016 lows for the Dow Jones Industrial Average, but it’s also the low we saw in early 2017 right before this big rally started. There’s something to it.

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Dow Jones today

As frightening as the prospect of a pullback to 20,350 nay seem, bear in mind that’s only a 12.9% slide from the value of the Dow Jones today. That’s a fairly typical correction.

First things first, though.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities. You can follow him on Twitter.

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