Markets go up and markets go down. You don’t need to stay in a Holiday Inn Express to know that. However, emotionally, many can’t handle a market downturn. Here’s how to handle the Brexit slide—and the next 100 market downturns.
Plan For Market Downturns
I was in Hong Kong a few months ago. One of the “traders” there was kind enough to be my handler for a venue across town. I use the word trader loosely because the Hang Seng was down around 30% and so was he. Instead of getting out of the way, he let his positions get away from him. He explained to me that he couldn’t sell now because he was down too much. Trying to interject some sort of emotional based reasoning into the market is never a good idea. Follow your plan which should include a plan for getting out of the way. Otherwise, you’ll become the proverbial deer in the headlights. Never forget that it’s always darkest right before it gets more dark.
You have to have a plan. That plan has to have a contingency that the market might go against you. The reason many people don’t plan is that the moment that you make a plan is the moment that you admit that you could be wrong. And, guess what? You will be wrong and unfortunately, you'll actually be wrong quite often. That goes for you, me, and the guy who screams on TV. Get used to it or find something else to do. In fact, as I preach, EVERY trade will eventually end badly. Knowing this from the start is liberating.
The Solution Is Simple: All You Have To Do Is....
Like my wife Marcy explaining a “simple” plumbing project to me, “all you have to do is:” PLAN YOUR TRADE AND TRADE YOUR PLAN. I know, like plumbing, it’s much easier said than done but that truly is “all you have to do.”
Take Market Downturn Signals Seriously
Greg Morris, friend and former fund manager of billions, once said that they treat all signals as they will become the big one. Greg’s right. The old hedge fund adage “he who fights and runs away lives to fight another day” comes to mind.
Last summer we had a major Bowtie sell signal trigger. Major is defined as a weekly signal coming off of all-time highs. That signal remains in effect until and unless the market goes on to make new highs.
You have to be prudent not obstinate. You have to have a general framework and then work around that. I got a nastygram because the market didn’t go down in spite of all my pontifications about a major sell signal. He pointed out how wrong I was and suggested that, and I quote, “maybe I should consider another line of work.” Well, if I was always right you’d never see my fat ass again. Not every signal will turn into the “big one”-Elizabeth implied. However, channeling Greg, every signal must be taken seriously.
Now, just because I had a sell signal didn’t mean that I sold the farm. Yes, we did have a half dozen shorts late last year/earlier this year but for the most part, we have been buying stocks. We’ve just been prudent and super duper selective. Each potential position was taken in the context of the fact that there was a sell signal in place and the market was sideways at best. So, the setups had to be great, knowing going in that don’t have a tailwind. They had to be something that could trade independently of the market. Very speculative issues (e.g. IPOs) that wouldn’t know a fundamental if it hit them in the ass and commodity related stocks are examples here.
It’s been said that the early bird may get the worm but the second mouse gets the cheese. Sometimes in markets you get a signal and not much happens. Then, you get another signal and that’s the real deal. Not to digress too far, but I actually know a trader who only lets the new guys take second signals until they get their feet wet. This way, they trade less but more accurately and build confidence. Anyway, my point is that tops and bottoms can be and “event” but can also be a process. As I’ve been saying, this the slowest rollover that I’ve ever seen. Sometimes it takes time for a top (or bottom) to form. In classic TA terms these “process” tops/bottoms can be double bottoms/tops, cups, saucers, etc… Looking to the Ps (S&P 500), notice that the weekly Bowtie triggered last summer. And, we could get a back-to-back signal. Maybe this one is the big one, Elizabeth? Take a look at major tops in a variety of markets throughout history (or watch my Youtubes where I point this out). Notice that they often come off of major Bowties with many being “second mouse” type signals.
Timing Market Downturns Is Tough
I suppose that I’d be remiss if I didn’t point out that market timing is tough. I think you’re much better off being a trader of individual stocks. Indices are efficient. Indexers, hedgers, one-lotters, jokers, and mid-night tokers makes for a crowded playing field. Often they cancel each other out making for choppy trading. In spite of them being hard to predict and even harder to trade, you still have to obviously pay attention to what the overall market is doing. Is it generally going up/down/or just plain sideways?
BTW, in spite of what seems to be universally preached, markets don’t “always go up longer-term.” Why the lie? Well, it’s much easier to be a salesman than a market timer. It’s much easier to tell your client not to worry because “we’re in for the long haul” and then go on to make another sale.
The reason I’m thinking about is above is because recently someone I know who just got into investing was told just that. She and others that are a little late to the party will likely be the first to go. Friends are starting to ring me. They first ask if I’m okay. Once I tell them, yeah, no worries! markets go up and down, the conversation quickly turns to their concern about the markets. So, it’s safe to say that the man in the streets has taken notice and getting nervous.
The slide is being blamed on Brexit but there’s always something to worry about. Anyone remember my “Market Slips On Greece, LOL” column? Short of the zombie apocalypse, I don’t worry about too much (other than what I might have for lunch). Learn to read the charts and your life will get a lot easier. A sell signal from last summer and mostly sideways action since has kept me and my peeps often sitting on our hands.
I wasn’t always able to keep my head while everyone else was losing theirs. I remember my first few big panics when the market when sharply against me. The epiphany came later when I was fortunate enough to be able to work with a much more seasoned trader. He seemed almost bored with the markets in spite of the sharp turns. On a slide, he just stopped out and then started trading the other side. I was amazed that it all was just a matter of fact to him. I on the other hand was clinging on, still trying to fight the last battle.
To Short (on the Brexit Slide and Other Slides) Or Not To Short?
As I preach, make no bones about it, shorts are a major pain in the ass. There’s logistics—you have to borrow shares. And, those shares can be randomly called back. Sharp retrace rallies suck-to put it mildly. Sans a serious persistent bear market, longer-term trend following on short side is difficult at best.
So why bother shorting? Well, obviously it’s the only way to make money when a market is headed lower. The not-so-obvious reason is because it forces you to see both sides of the market. My friends who run money who choose not to short (or quite frankly, can’t due to their charter) always seem to see the glass as half full. I get that but you really have to see both sides. Shorting helps you to be agnostic. Even if you don’t short, at the least, learn to recognize the signs and signals.
So What Do We Do?
Well, first and foremost, stop the bleeding. Honor your stops. Yes, the market might turn right back up and that would be great but it also might not. Don’t worry about looking stupid because you’re taking a loss. Again, it’s better to live to fight another day. I would imagine if this morning’s bounce holds, we should start seeing some shorts. I’d rather just ride out a long-term bull market but in this game, you have to play the hand that’s dealt. So, start keeping an eye out for a short or two just in case. Stocks just coming off of major highs would be preferable vs. stocks already in established longer-term downtrends. As I often preach, match the pattern to the market. The market is rolling over from high levels so find stocks that follow suit. Regardless of what you do, just remember that a market can do whatever it wants. Have a plan and follow that plan. That’s all you have to do and you’ll be able to handle the Brexit slide and the next 100 market downturns. You're welcome!
May the trend be with you!
Dave Landry
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