Dow’s Theory on Markets and Manipulation

As we repeatedly say, based on the work of Charles H. Dow (co-founder of the Wall Street Journal and the respected Indexes), markets can be manipulated in the short term.  However, in the long run, everyone learns the truth.

"...manipulation in a stock cannot be permanent, and, in the end, the investor learns the approximate truth."

- Charles H. Dow, Wall Street Journal, October 18, 1901.

But the question is constantly asked, “how do you know?” and “what is your proof?”

Our favorite example is the aggressive actions of Japan from 1989 to 2009 in an effort to stem the decline in the economy.

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The above graphic outlines rate cuts, stimulus, and QE for over 10 years and contrasts that with the stock market.  These are all tools of manipulation aimed at restoring the economy.  The natural reaction is, “well, of course the stock market and the economy are two separate things and are completely unrelated.”  This is an important distinction because while all of the above policy was directed at the economy, it is possible that a recovery might not be seen in the stock market while the economy recovers.

However, we know that specific efforts aimed at getting the stock market higher didn’t work out for the Nikkei 225 Index.

1992:

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1995:

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1997:

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1998:

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While specific actions were taken for the stock market, it continued a decline from over 38,000 to as low as 7,000. So where does all this lead us and why does it related to the work of Charles H. Dow, a person who was alive before electronic trading, social security, the Federal Reserve, indoor plumbing and electricity as standard features of a home? As Dow Theorists, we believe that the true health of the economy is reflected in the stock market.

The China Connection

As with all the efforts to stem the decline in Japan, the decline occurred in spite of money, policy, and government resolve. We believe that the stock market is the final arbiter of the truth regardless of the country, as outlined by adherents of Dow’s Theory.  The following may prove instructive on the topic as it relates to China.

A recent debate emerged on the veracity of the claims made in a Financial Times article dated September 11, 2024 that suggested that venture capital funding is drying up in China and the number of start-ups is falling dramatically.

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Of particular controversy is the data reflecting the number of companies founded, which showed a dramatic increase from 2009 and an equally dramatic decline since 2018.

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The author of the article claims to have confirmed the data from the source and the source did not find issue with the data in the past.  However, after the article was published, the source claims that the data is completely inaccurate.

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There are some who complain that the Financial Times author is on an anti-China smear campaign by intentionally publishing false (manipulated) data while those siding with the FT author are suggesting that when data isn’t to the liking of the Chinese government then the source is forced to protest the data, at the government’s behest.

Two things stand out about the matter.  First, the Chinese government has decreased the amount of reporting of data substantially over the years.

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Second, the trend of rising, then falling, number of start-ups has been a consistent theme in the United States since 2020, as outlined in the Chinese “companies founded” section of the chart above.

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When looking at the number of start-ups in the U.S., it appears that the 2022 peak and subsequent decline might be a match for the 2006 peak and the decline to the 2010 low.  Although the author of the chart incorrectly claims that the boom “began in the Biden-Harris Administration,” we cannot overlook the fact that the beginning of the trend started in 2010, a decade before Harris became Vice President.

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This matters because misattributing where a trend starts carries with it the wrong lessons on what works and what doesn’t.  Alternatively, the “boom” starting at the onset of a pandemic (as opposed to the 2010 low) is a normal pattern historically and therefore cannot be blamed on the administration in office at the time.

So where does all this leave us?  One side claims the data is good (Financial Times) and the other claims that it is manipulated (Chinese government).  Who can we believe?  In our view, the stock market has accurately reflected the pattern that matches the data, so far.

Shanghai Composite Index: 2015-2024

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In the U.S., the stock market has achieved levels higher than the 2007 peak which also match the start-up peak of 2006, the decline to the 2010 low and then the more recent 2022 peak.

Meanwhile, the Shanghai Composite Index peaked in 2007 shortly before the beginning of the phasing out of data reporting in China back in 2010.  Since that time, the Shanghai Composite has not exceed the 2007 peak.

On a short-term basis, the Shanghai Composite Index has not exceeded the 2015 high.

Additionally, the new low levels in the Shanghai Composite are not dissimilar to the lows seen in the reported start-ups in China.

Worth Considering

As cited above, Japan saw the Nikkei decline from 38,915 to 7,088 all while the government took an active role in trying to shore up the stock market. None of their efforts worked in spite of the massive amounts of money, rule changes, and monetary policy.  Likewise, since 2007, China has embarked on a step-by-step repeat of actions used by Japan to get the stock market to new highs with no luck.

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As a reminder, Charles H. Dow says:

"...manipulation in a stock cannot be permanent, and, in the end, the investor learns the approximate truth."

Shanghai Composite Index: 2002-2024

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As seen in the Shanghai Composite, in spite of all the direct efforts of the government to get the stock market higher, we still do not have new highs to speak of. This should leave us with the only reasonable conclusion which is devoid of concern for politics and data that can easily be manipulated, the stock market will reflect the reality of the situation.

No new highs exceeding the 2007 peak (extremely difficult standard) or the 2015 high (below the 2007 peak and more generous standard) or the 2021 high ( below the 2015 & 2007 peak and extremely generous standard; low bar) tells us that China’s situation is not good at all.  This is in spite of the direct money, policy, and good intention of the government aimed specifically to boost the stock market AND the economy.

China’s History So Far:

2015:

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2016:

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2018:

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2019:

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2022:

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2023:

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2024:

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What does all this effort in China demonstrate about trying to manipulate stock markets?  First, the stock market matters to the economy. Second, all the activity to get markets higher doesn’t work. Third, all the action to keep the market from falling doesn’t work.  Sure, in the short-term there will be monthly and weekly increases. However, the long-term cannot be manipulated to result in new highs for the stock market.

Again, some like to say, “well, the stock market doesn’t matter because it isn’t the economy.” Yet, significant effort is put into bailing out the stock market in spite of this claim. The belief is that with the bailouts the stock market will be higher.  The reality is clearly against such a theory.

The Red Herring

Back to the controversy on startups in China. We have suggested that the data could be accurate but it is also being spun in a manner that indicates that it is unique and negative specifically to China.  In fact, we can confirmed that with the available data, the trend has turned negative in the U.S. as well.  Is it possible to manipulate the data? Yes.  Is it possible that a negative narrative is being cultivated? Yes.

However, equally as accurate is the stock market’s verdict.  A verdict which, so far hasn’t been revised or adjusted to fit anyone’s narrative in spite of the massive amounts of money, policy, and central planning efforts.

So while invectives are lobbed by both sides in the debate over whether the Financial Times or Chinese government is manipulating data, it is clear that anyone playing along with the controversy is simply playing politics and not much else.

Closing Thoughts:

While some economists like to turn their nose up to the stock market as an indicator, governments seem to know that without the stock market, the perception of a turn in the economy can’t be realized.  Additionally, a turn in the stock market isn’t something that can be achieved by manipulation, in the long-term.

"...manipulation in a stock cannot be permanent, and, in the end, the investor learns the approximate truth."

- Charles H. Dow, Wall Street Journal, October 18, 1901.

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