The method's philosophy 1948 — price discounts everything
Chapter 1 of 15 · 10 min
Robert D. Edwards and John Magee published in 1948 what came to be the bible of pattern trading. The book was no new invention but a systematization of the Dow theory inheritance from the turn of the century, written down with the charts of the 1930s and 40s as evidence. Everything that follows in this course rests on three axioms — and on an honest financial reporting of the fact that the material comes from another market era.
Edwards & Magee open with the method's fundamental assumption, inherited from Charles Dow: price discounts everything. The chart is an aggregation of all knowledge, all fundamental information, all hopes and all fear that thousands of buyers and sellers harbor. The analyst therefore does not need to study balance sheets or interest rate decisions separately — all of this is assumed to be already baked into the course of prices.
It is a strong claim, and in 1948 it could not be tested statistically — it was an article of faith founded on observation of the charts of the 1930s.
The second axiom: trends exist, and they continue until they are definitively broken. This is the whole method's engine. An uptrend — a series of higher tops and higher bottoms — is assumed to continue until the price does something that proves the opposite, typically a breakout of an established trendline or neckline.
If trends had no inertia, all pattern analysis would be meaningless. Edwards & Magee formulate it as the market moving in one direction until a recognizable force turns it — and the patterns are precisely those recognizable forces.
The third inheritance from Dow is three time horizons: the primary trend (the tide), the secondary reactions (the waves) and the lesser swings (the ripples on the surface). Dow himself used the sea metaphor: it is easy to mistake a wave for a tidal turn. Edwards & Magee build further: patterns that take months to form affect the primary trend, while flags and pennants on the daily basis are only ripples.
The time dimension of a pattern — how long it is built — is therefore a direct indicator of its significance.
An honest 1948 context that the course returns to in chapter 15: Edwards & Magee worked by hand, with paper charts and tick data from an era of fixed price placement, penny spreads and far fewer actors. Their patterns were catalogued from a limited number of American stocks during the depression and the war decades.
This makes the book a historical document of the highest rank — but its numbers are data from a bygone era, not modern evidence. It is only when the computers arrive that the patterns can be tested for real.