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Dow theory bulls invigorated by record peaks

The Dow Jones industrial and transportation averages on Thursday both closed at new highs in a bullish signal for one of Wall Street’s oldest investment theories. 

The two US equity benchmarks, which date back to the 19th century, have not recorded highs one after another since December, after which the duo began to diverge as the Trump trade that propelled stocks to fresh peaks lost momentum. 

Transports track 20 US railways, airlines, and freight companies, and is seen as a good barometer for the overall economy. It has risen 13.7 per cent higher since the election of Donald Trump in November. The industrial average gauges a broader set of 30 companies that are prominent names in their respective sectors. It has gained 9.6 per cent since the election.

According to the Dow theory that is still widely tracked by investors, when both the industrials and the transports make new highs together, it foreshadows good news for both the economy and corporate America — a cue to traders that it may be time to buy.

Mr Trump’s election has helped to push stocks higher amid expectations that his policy plans will ramp up growth and reduce tax and regulatory burdens on US companies.

“US markets . . . are roaring into 2017 obsessed with a simple narrative: fiscal policy — especially tax reform — will quickly and effectively substitute for far less accommodative US monetary policy,” observed Peter Cecchini, chief market analyst at Cantor Fitzgerald. 

However, some strategists have warned that as stocks rise and valuations push higher, investors have priced in little room for policy mistakes from the new administration or unexpected surprises elsewhere.

“Positioning, profits and policy are consistent with one last melt-up in risky assets,” analysts at Bank of America Merrill Lynch said on Thursday. 

Colin Cieszynski, chief market strategist at CMC Markets, echoed that cautious stance, saying, “there is a growing risk that some stocks may be getting caught up in the hype and ahead of their short to medium term prospects”. 

Underscoring that risk, Caterpillar the world’s biggest maker of heavy machinery, posted upbeat fourth-quarter earnings but delivered a gloomy outlook, noting that the company would have to wait until 2018 before it saw benefits from tax reform and infrastructure spending under US President Donald Trump.

The group noted that “prospects for tax reform and an infrastructure spending bill in the US are encouraging” but added that they do not expect to see “meaningful effects” of these changes until sometime in 2018.

The stock has been a significant beneficiary of the Trump trade, rallying by almost 16 per cent from the election to Wednesday’s close of trading, more than double the rise notched by the broad S&P 500 index.

However, the shares pulled back by 1 per cent to $97.22 on Thursday, trimming a drop of as much as 2.2 per cent.

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