If you just looked at the price change, you’d say that the market had a modest up day. However, when you look a little further you’ll notice that the market tried to rally but failed. So, so far, the market hasn’t been able to mount a rally from its oversold condition.
Just because stocks have stopped going down for the moment doesn’t mean that you should rush in and buy. Yes, sooner or later the market will have a big bounce from oversold but trying to bet on that is just that—a bet.
The Ps (S&P 500) and Quack (Nasdaq) ended flat after failed rally attempts. The Rusty (IWM) did manage to tack on well over 1% on the day. This sounds like a good thing until you look at the chart and see that it was actually up well over 2 ½% at one point.
I was listening to an interview of my friend Greg Morris yesterday. Paraphrasing, at one point Greg said that you have to treat each market downturn as if it will be the big one. I fully agree.
True, there have been some fakeouts since 2009 but that shouldn’t sway you. He who fights and runs away lives to fight another day.
And, in this case, we not only ran away (only 1 long left in the model portfolio) but we might just actually make a little bit on the short side. So far, 2 out of 3 of our shorts have hit the initial profit target.
It would be great if I never had to put on another short as long as I live. Markets go up and unfortunately, markets go down. As trend followers, we get paid to follow the trend.
It’s not that you get rich playing the short side. In theory, you gains are limited to 100% on any given trade. Also, covering rallies are often so vicious that they knock you out long before that. So why play? The obvious reason is that you can make some money. It is nice to end a year like 2008 in the black vs. losing half of your account like the majority of the funds did by blindly following the market lower. However, the main reason is that it helps you to see both sides of the market. If you recognize sell signals, it stops you from rushing out and buying more stocks. It also makes you think that you might want to honor your stops on existing longs just in case this thing doesn’t stop—again, treating every downturn as “the big one.”
So what do we do? The market is very oversold. As I preach, this creates a darned if you do and darned if you don’t situation. If you try to buy, it will become even more oversold—futures are getting whacked pre-market so I give you exhibit A. If you try to short it, it’ll bounce. Rather than focus on the micro of the situation, use this continued weakness as a chance to lock in partial profits on your shorts and trail your stops lower. Honor your stops on any remaining longs. Let the market take you out. True, things might turn right back around but sometimes they don’t. Live to fight another day.
Best of luck with your trading today!
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