<s> NINTH EDITION
TECHNICALANALYSIS OFSTOCKTRENDS
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CRC PressTaylor & Francis Group6000 Broken Sound Parkway NW, Suite 300Boca Raton, FL 33487-2742© 2007 by Taylor & Francis Group, LLCCRC Press is an imprint of Taylor & Francis Group, an Informa businessNo claim to original U.S. Government worksPrinted in the United States of America on acid-free paper10 9 8 7 6 5 4 3 2 1International Standard Book Number-10: 0-8493-3772-0 (Hardcover)International Standard Book Number-13: 978-0-8493-3772-7 (Hardcover)This book contains information obtained from authentic and highly regarded sources. Reprinted materialis quoted with permission, and sources are indicated. A wide variety of references are listed. Reasonableeﬀorts have been made to publish reliable data and information, but the author and the publisher cannotassume responsibility for the validity of all materials or for the consequences of their use.No part of this book may be reprinted, reproduced, transmitted, or utilized in any form by any electronic,mechanical, or other means, now known or hereafter invented, including photocopying, microﬁlming,and recording, or in any information storage or retrieval system, without written permission from thepublishers.For permission to photocopy or use material electronically from this work, please access www.copyright.com (http://www.copyright.com/) or contact the Copyright Clearance Center, Inc. (CCC) 222 RosewoodDrive, Danvers, MA 01923, 978-750-8400. CCC is a not-for-proﬁt organization that provides licenses andregistration for a variety of users. For organizations that have been granted a photocopy license by theCCC, a separate system of payment has been arranged.Trademark Notice: Product or corporate names may be trademarks or registered trademarks, and areused only for identiﬁcation and explanation without intent to infringe.Library of Congress Cataloging-in-Publication DataEdwards, Robert D. (Robert Davis), 1893Technical analysis of stock trends / Robert D. Edwards, John Magee, W.H.C.Bassetti. -- 9th ed.p. cm.Includes bibliographical references and index.ISBN 0-8493-3772-0 (alk. paper)1. Investment analysis. 2. Stock exchanges--United States. 3. Securities--UnitedStates. I. Magee, John, 1901- II. Bassetti, W. H. C. III. Title.HG4521.E38 2006332.63’20420973--dc22Visit the Taylor & Francis Web site athttp://www.taylorandfrancis.comand the CRC Press Web site athttp://www.crcpress.com
2006045096
NINTH EDITION
TECHNICALANALYSIS OFSTOCKTRENDSROBERT D. EDWARDSJOHN MAGEEW.H.C. BASSETTI
Boca Raton London New York
A M E R I C A N M A N A G E M E N T A S S O C I AT I O NNew York • Atlanta • Brussels • Chicago • Mexico City • San FranciscoShanghai • Tokyo • Toronto • Washington, D.C
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Preface to the 9th EditionWarp speed universe. Warp speed financial markets. The 8th Edition of thisclassic book appeared when it seemed that the millennium and paradise hadbeen achieved and that, like McKay’s tulipomania, the price of stocks wouldrise forever and men would rush from the world over and pay whateverprice was asked for what-was-its-name.com, Internet.groceries, or ihype.comor icon.com or gotcha.com. And, feature this, Dow 36000. The bubble wasjust in the process of bursting, of course. Before it burst fabulous fortuneswere made by roller blader and scooter tycoons and by young geeks withnothing but chutzpah and a laptop. One of my favorite stories is of the youngentrepreneur who said “Why don’t I deserve it (the $100MM he made in theIPO)? I’ve devoted three years of my life to this project.” (Now dead.)Now many of those people are in prison and the hangover lingers on.Lying, cheating, and stealing on all sides. From Enron to Arthur Anderson.Billions, if not trillions into a black hole. As all this developed I warned ofthe impending collapse in the John Magee Investment Letters on the web.There was nothing magic or brilliant about seeing what was going on.Perspective and perception came from applying the lessons taught in thisbook by Edwards and Magee. Like Benedict XVI (in a different area) I am ahumble worker in their vineyard.I press on attempting to modernize (where necessary) and extend theirwork, fit it to the modern situation and make it even more useful to currentday traders and investors.In this ongoing labor of love I have been immeasurably assisted by mygraduate students and colleagues at Golden Gate University in San Francisco. In constant interaction with them, I have been stimulated to see important aspects of Edwards and Magee’s work and develop and emphasize theseelements in my teaching and in this new edition.Specifically, both long-term and short-term traders will find importantnew material in this edition. In my graduate seminars I have seen the powerof what Magee called the “Basing Points” procedure and so have extendedthe treatment of this material. My interest in and respect for Dow Theoryhave recently increased as the result of a paper done with Brian Brooker forthe Market Technicians Association (“Dissecting Dow Theory”). Materialfrom that paper will be found in this edition. Short-term traders and futuresspeculators will appreciate extensive new material on commodity trading.These traders have been entirely too influenced by mechanical numberdriven systems of recent years and need to restore perspective by masteringthe material in this book.It was never the intent of this book to forecast or analyze current markets.Rather it’s purpose was, and is, to learn from history and the past so as tobe better able to deal with the present and the future. Current markets are
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analyzed (and forecast?) at the John Magee website. Nonetheless, the veryprocess of keeping current involves picturing issues and instruments in play.The major indices themselves in 2005 were in play, and gold, silver and oil.We don’t know how they will pan out. But we can make an analysis withthe data we have. For this is the situation the analyst is faced with every day.He doesn’t know how it will turn out. But, by following the methods andprinciples taught in this book he can put himself on the right side of theprobabilities.This is no idle remark. The power and effectiveness of classical chartanalysis can be seen by examining how it performed in the past at criticaltimes. At the John Magee Technical Analysis website the following commentwas made in January 2000:Dow: The Dow can expect to find support at 10000 and is buyable,but in small commitments or portions of a portfolio or additionsthereto. We expect to see it in a very large seesaw from 9-12000 forsome time and would hedge at the high end and increase commitments and lift hedges on oversold conditions at the low end.In November 2000 the following comment was made:November 18, 2000There is really only one chart pattern of significance in thesemarkets, and that is the big one, more than 12 months long now,and the pattern is a big serpent, whipping back and forth, and asShakespeare said, signifying nothing. Nothing that is but more ofthe same. How will we know when it signifies something? Wellwe won't really know till we know, but we'll let you know whenwe know. So we would continue to pick likely shorts and employshort term trading strategies for traders, and hedge at interimtops and lift the hedges at bottoms. Based on the chart pictureand last week's anemic behavior we would not trade for bouncesin the NASDAQ. If anything it is a short, but a risky one.These past letters, dramatically illustrating the effectiveness of the methods of this book, may be found online through links at the address specifiedbelow. Your editor, personally, is not a genius for having made these analyses.It is the method that is to credit, and any number of my graduate studentscan make the same analyses, as can any alert chart analyst.The reader should not skip the prefatory material to the 8th Edition. Thesame practices outlined there have been followed in this edition. Magee saidthe reader should not skim through this book and put it on his library shelf.Instead it should be read and reread and constantly referred to. And so thereader should, yes, so he should.
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Richard Russell, the dean of Dow Theory Analysts, has reportedly saidthat the price of the Dow and the price of gold will cross in coming years.He has also remarked that the S&P appears to evince a 10-year head-andshoulders pattern. Robert Prechter believes we are at the crest of the tidalwave and the tsunami cometh.Dow 36000. Dow 3000. This book contains the best tools to cope withwhatever the future holds.W.H.C. BassettiSan Francisco, California
A Special Note Concerning Resources on the WebIn the age of instant and easy (and free) access to information on the Internetit would be foolish to ignore the opportunities available to interact with thematerial of this book. So the reader will find numerous free materials thataugment the book at www.edwards-magee.com/nf05/ninthedition.html.For example, when the reader learns in Chapter 28 of the Basing PointsProcedure he will be able to go to the website and print out a PDF of materialthat he can place beside Figure 210.1 for instant and easy cross reference,instead of having to turn pages constantly back and forth from the chart tothe keys and commentary, or having to bend the book into pretzels at a copymachine. In general, wherever references are made in the text to the websiteit is for this purpose, to give the reader easy and flexible usage of the material.And, likewise, at this address the reader will find links to past letters thatshow how the method functioned in real time in real markets.
A Special Note about Dow TheorySenator Everett Dirkson said one time that trying to get U.S. Senators herdedtogether and moving in one direction was like trying to transport bull frogsin a wheelbarrow. Trying to synchronize the signals of the various DowTheory analysts is a similarly challenging proposition. No Ayatollah existsto issue the final fatwa as to whether the signal is valid. Always one to abhora vacuum I have organized a committee at Golden Gate University to evaluate pronouncements of signals and opine as to whether the signals arevalid. This committee may be contacted at the addresses found in Resourcesand at cbassetti@ggu.edu.
Acknowledgments for the Ninth EditionFor professional assistance: Jack Schannep, Robert W. Colby, Curtis Faith,Greg Morris and John Murphy, Tim Knight and Chi Huang.For assistance at Taylor & Francis: Richard O’Hanley, Raymond O’Connell,Pat Roberson, Andrea Demby, and Roy Barnhill.
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For research assistance and manuscript preparation: Brian Brooker and GraceRyan, my fearsomely bright and efficient teaching and research assistants.And my inimitable technical assistant, Samuel W.D. Bassetti.At Golden Gate University for ongoing support and assistance: ProfessorHenry Pruden, Barbara Karlin, Janice Carter, Tracy Weed and CassandraDilosa.Special appreciation goes to makers of software packages and their supportive executives for software used in the preparation of this and previouseditions.John SlausonAdaptick1082 East 8175 SouthSandy, UT 84094www.adaptick.comSteven HillAIQ SystemsP.O. Box 7530Incline Village, NV 89452702-831-2999www.AIQsystems.comAlan McNicholMetastockEquis International, Inc.3950 S. 700 East, Suite 100Salt Lake City, UT 84107www.equis.com
Bill Cruz, Ralph Cruz, Darla TuttleTradestationOmega Research14257 SW 119th AvenueMiami, FL 33186305-485-7599www.tradestation.comTim Knight, Chi HuangProphet Financial Systems, Inc.658 High StreetPalo Alto, CA 94301www.prophet.nethttp://tradertim.blogspot.comGreg Morris, John MurphyStockcharts.com, Inc.11241 Willows Road, #140Redmond, WA 98052www.stockcharts.com
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Preface to the Eighth EditionHere is a strange event. A book written in the mid-20th century retains itsrelevancy and importance to the present day. In fact, Technical Analysis ofStock Trends remains the definitive book on the subject of analyzing thestock market with charts. Knock-offs, look-alikes, pale imitations have proliferated in its wake like sea gulls after a productive fishing boat. But thetruth is they have added nothing new to the body of knowledge Edwardsand Magee originally produced and Magee refined up to the 5th edition.What accounts for this rare occasion of a book’s passing to be a classic? Tobe more, in fact, than a classic, to be the manual or handbook for current usage?To answer this question we must ask another. What are Chart formations? Chart formations identified and analyzed by the authors are graphicrepresentations of unchanging human behavior in complex multivariate situations.They are the depiction of multifarious human actions bearing on a singlevariable (price). On price converge a galaxy of influences: fear, greed, desire,cunning, malice, deceit, naiveté, earnings estimates, broker need for income,gullibility, professional money managers’ need for performance and job security, supply and demand of stocks, monetary liquidity and money flow, selfdestructiveness, passivity, trap setting, manipulation, blind arrogance, conspiracy and fraud and double dealing, phases of the moon and sun spots,economic cycles and beliefs about them, public mood, and the indomitablehuman need to be right.Chart formations are the language of the market, telling us that this stockis in its death throes; that stock is on a rocket to the moon; that a life anddeath battle is being waged in this issue; and in that other, the buyers havedefeated the sellers and are breaking away.They are, in short, the inerasable fingerprints of human nature madegraphic in the greatest struggle, next to war, in human experience.As Freud mapped the human psyche, so have Edwards and Mageemapped the human mind and emotions as expressed in the financial markets.Not only did they produce a definitive map, they also produced a methodology for interpreting and profiting from the behavior of men and markets.It is difficult to imagine further progress in this area until the science ofartificial intelligence, aided by yet unimaginable computer hardware, makesnew breakthroughs.
If It Is Definitive, Why Offer a New Edition?Unlike Nostradamus and Jules Verne (and many current investment advisors),the authors did not have a crystal ball or a time machine. Magee did not
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foresee the electronic calculator and made do with a slide rule. And whilehe knew of the computer, he did not anticipate that every housewife andinvestor would have 1000 times the power of a Whirlwind or Univac I onhis (her) desk (cf. Note on Gender). In short, the March of Time. The Progressof Science. The Inexorable Advance of Technology.Amazingly, the great majority of this book needed no update or actualization. Who is to improve on the descriptions of chart formations and theirsignificance?But insofar as updates are necessary to reflect the changes in technologyand in the character and composition of the markets, that is another story.Human character may not change, but in the new millennium there is nothing but change in the character and composition of the markets. And whileregulatory forces might not be completely in agreement, the majority of thesechanges have been positive for the investor and the commercial user. Ofcourse, Barings Bank and some others are less than ecstatic with these developments.
An Outline of the Most Important Additions Madeto This Book to Reflect Changes in the Times,Technology, and MarketsGenerally speaking, these additions, annotations, and updates are intendedto inform the general reader of conditions of which he must be aware forinvesting success. In most cases, because of the enormous amount of material, no attempt is made to be absolutely exhaustive in the treatment of thesedevelopments. Rather the effort is made to put changes and new conditionsin perspective and furnish the investor with the resources and proper guideto pursue subjects at greater length if desired. In fact, an appendix has beenprovided, entitled Resources, to which the reader may turn when he hasmastered the material of the book proper.The stubborn individualist may realize investment success with the useof this book alone (and paper, pencil, ruler, and chart paper (cf. Section onTEKNIPLAT™ chart paper).
TechnologyIn order to equip this book to serve as a handbook and guide for the marketsof the new millennium, certain material has been added to the text of the5th and 7th editions. Clearly the astounding advances in technology mustbe dealt with and put in the context of the analytical methods and materialof the original. To achieve success in the new, brave world, an investor mustbe aware of and utilize electronic markets, the Internet, the microcomputer,wireless communications, and new exchanges offering every kind of exoticaimaginable.
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The advanced investor should also be aware of and understand someof the developments in finance and investment theory and technology —the Black–Scholes Model, Modern Portfolio Theory, Quantitative Analysis.Fortunately, all these will not be dealt with here, because in truth one intelligent investor with a piece of chart paper and a pencil and a quote sourcecan deal with the markets, but that is another story we will explore later inthe book. Some of these germane subjects will be discussed sufficiently toput them in perspective for the technical analyst, and then guides andresources will be pointed out for continued study. My opinion is that themastery of all these subjects is not wholly necessary for effective investingat the private level. What need does the general investor have for an understanding of the Cox–Ross–Rubinstein options analysis model to recognizetrends? The Edwards–Magee model knows things about the market the CRRmodel does not.
Trading and Investment InstrumentsThe new universe of available trading and investment instruments must betaken into account. The authors would have been in paradise at the profusionof alternatives. In this future world, they could have traded the Averages(one of the most important changes explored in this book); used futures andoptions as investment and hedging mechanisms; practiced arbitrage strategies beyond their wildest dreams; and contemplated a candy store full ofinvestment products. The value and utility of these products would havebeen immeasurably enhanced by their mastery of the charting world oftechnical analysis. As only one example, one world-prominent professionaltrader I know has made significant profits selling calls on stocks he correctlyanalyzed to be in down trends, and vice versa — an obvious (or, as they say,no-brainer) to a technician, but not something you should attempt at homewithout expert advice. Techniques like this occasioned the loss of manymillions of dollars in the Reagan Crash of 1987.
Changes and Developments in Technical AnalysisHave any new chart patterns (that is to say, changes in human behavior andcharacter) emerged since the 5th edition? Not to my knowledge, althoughthere are those who take the same data and draw different pictures fromthem. How else could you say that you had something new! different!better!? There are other ways of looking at the data which are interesting,sometimes valuable, and often profitable, which goes to prove that manyare the ways and gateless is the gate to the great Dow. Point and figurecharting have been used very effectively by traders I know, and candlestickcharting depicts data in interesting ways. Furthermore, since Magee’s time,aided by the computer, technicians have developed innumerable, what I call,number-driven technical analysis tools: (the puzzlingly named) stochastics,
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oscillators, exponential and other moving averages, etc., etc., etc. It is notthe intent of this book to explore these tools in depth. That will be done ina later volume. These concepts are briefly explored in an appendix suppliedby Richard McDermott, editor of the 7th edition.I have also made additions to the book (Chapter 18.1) to give a perspective on long-term investing, since Magee specifically addressed the secondpart of the book (on tactics) to the speculator. I have substantially rewrittenChapters 24 and 42 to reflect current ideas on portfolio management andrisk management. I have expanded on the idea of rhythmic trading — anidea which is implicit in the original. I have expanded the treatment ofrunaway markets so that the Internet stocks of the 1990s might be put inperspective (Chapter 23).And then, paradigms. Paradigms, as everyone should know by now, arethe last refuge of a fundamentalist when all other explanations fail.
Paradigm ChangesWhenever the markets, as they did at the end of the 20th century, departfrom the commonly accepted algorithms for determining what their pricesought to be, fundamentalists (those analysts and investors who believe theycan determine value from such fixed verities as earnings, cash flow, etc.) areconfronted with new paradigms. Are stock prices (values) to be determinedby dividing price by earnings to establish a reasonable price/earnings (p/e)ratio? Or should sales be used, or cash flow, or the phase of the moon, or —in the late 1990s, should losses be multiplied by price to determine the valueof the stock? Technicians are not obliged to worry about this kind of financiallegerdemain. The stock is worth what it can be sold for today in the market.
The Crystal BallInvestors will get smarter and smarter, starting with those who learn whatthis book has to say. The professionals will stay one step ahead of them,because they are preternaturally cunning and because they spend all theirtime figuring out how to keep ahead of the public, but the gap will narrow.Software and hardware will continue to advance, but not get any smarter.Mechanical systems will work well in some areas, and not in others. Mechanical systems are only as good as the engineer who designs them and themechanic who maintains them. Buying systems is buying trouble. Everyoneshould find his own method (usually some variant of the Magee method, inmy opinion). All good things will end. All bad things will end. The bag oftricks with which the insiders bilk the public will get smaller and smaller.New and ingenious procedures will be developed by the insiders. The wellof human naiveté is bottomless. For every one educated, a new one will beborn in a New York minute. It is deeply disturbing at the turn of the centurythat the owners of the NASDAQ and the NYSE should be thinking of going
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public. Could there be any more ominous sign that enormous changes areabout to occur?Vigorous development of the systems, methods, procedures, and philosophy outlined in this book is about the only protective shield I know of toguard against inimical change.W.H.C. BassettiSan Geronimo, CaliforniaJanuary 1, 2001
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About the Editorial Practicesin This Eighth EditionNeedless to say, one approaches the revision of a classic work with sometrepidation. Every critic and reader has his or her (cf. Note on Gender)opinion as to how revision should be done — whether the authors’ originaltext should be invisibly changed as though they had written the book in2000 instead of 1948 and were omniscient, or whether errors and anachronisms were to be lovingly preserved, or footnoted, or… etc., etc. (I havepreserved Magee’s favorite usage of “etc., etc., etc.” against the protestationof generations of English composition teachers because I like its evocationof an ever-expanding universe.)Notwithstanding every reader’s having an opinion, I am certain allcritics will be delighted with the practices followed in this 3rd millenniumedition of the most important book on technical analysis written in the 2ndmillennium.
Integrity of the Original TextBy and large, the 5th edition has been the source of the authors’ originaltext. Amazingly, almost no stylistic or clarifying emendation has been necessary to that edition. This is a tribute to the clarity, style, and content of theoriginal — one might almost say awesome, if the word were not in suchcurrency on “Saturday Night Live” and the “Comedy Channel.” Consideringthat it was written in the middle of the last century, and considering itscomplex subject, and considering that the markets were one tenth of theirpresent complexity, awesome may be the appropriate word. No change orupdate has been necessary to the technical observations and analysis. Theyare as definitive today as they were in 1950.While I have preserved the authors’ original intent and text, I have takenthe liberty of rearranging some of the chapters. Novices wishing to learnmanual charting will find the appropriate chapters moved to appendices atthe back of the book, along with the chapters on Composite Leverage andSensitivity Indexes.
About Apparent AnachronismsCritics with limited understanding of long-term trading success may thinkthat discussions of “what happened in 1929” or “charts of ancient historyfrom 1946” have no relevance to the markets of the present millennium. Theywill point out that AT&T no longer exists in that form, that the New Haven
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has long since ceased to exist as a stock, that many charts are records oflong-buried skeletons. This neglects the value of the charts as metaphor. Itignores their representations of human behavior in the markets which willbe replicated tomorrow in some stock named today.com or willtheynevergetit.com. Even more important, it ignores the significance of the past totrading in the present. I cite here material from Jack Schwager’s illuminatingbook, The New Wizards of Wall Street. Schwager, in conversation with AlWeiss: “Precisely how far back did you go in your chart studies?” Answer:“It varied with the individual market and the available charts. In the caseof the grain markets, I was able to go back as far as the 1840s.” “Was it reallynecessary to go back that far?” Answer: “Absolutely. One of the keys in longterm chart analysis is realizing that markets behave differently in differenteconomic cycles. Recognizing these repeating and shifting long-term patterns requires lots of history. Identifying where you are in an economic cycle— say, an inflationary phase vs. a deflationary phase — is critical to interpreting the chart patterns evolving at that time.”
Identification of Original Manuscript and RevisionsTrue believers (and skeptics) will find here virtually all of the original material written by Edwards and Magee, including their charts and observationson them. Changes and comments introduced by editors since the 5th editionhave been rearranged, and, when appropriate, have been identified as arevision by that editor.Maintaining this policy, where updates to the present technological context and market reality were necessary, the present editor has clearly identified them as his own work by beginning such annotations with “EN” forEditor’s Note. Figure insertions are identified as “x.1, x.2.”
Absolutely Necessary RevisionsNot too long ago my youngest son, Pancho, overheard a conversation inwhich I referred to a slide rule. “What’s a slide rule, Dad?” he asked. Well,needless to say the world has, in general, moved on from the time of Edwardsand Magee when instead of calculators we had slide rules. Where time hasmade the text useless, moot, or irrelevant, that problem has unobtrusivelybeen corrected.Where the passage of time has made the text obsolete, I have eitherfootnoted the anachronism and/or provided a chapter-ending annotation.These annotations are marked in the text with “EN” also. It is absolutelyessential to read the annotations. Failure to do so will leave the readerstranded in the 20th century.In some cases, these annotations amount to new chapters — for example,trading directly in the averages was difficult in Magee’s time. Nowadays ifthere is not a proxy or option or index for some Index or Average or basketof stocks, there will be one in less than a New York minute (which, as
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everyone knows, has only 59 seconds). This new reality has resulted in majoradditions to this new edition. These are detailed in the Foreword. Majorchapter additions necessary to deal with developments in technology andfinance theory have been clearly identified as this editor’s work by designating them as interpolations, viz., Chapter 18.1 (with the exception of Chapter 23, which I have surreptitiously inserted).
Absolutely Necessary Revisions Which Will Have Arisen inthe Thirty Minutes Since This Editorial Note Was WrittenIn a number of instances, the book relayed information which, in those daysof fixed commissions and monopolistic control by the existing exchanges,remained valid for long periods of time, for instance, brokerage commissionsand trading costs. It is no longer possible to maintain such information in aprinted book because of the rate of change in the financial industry. It mustnow be filed and updated in real time on the Internet. Consequently, readerswill be able to refer to the Internet for this kind of ephemeral data