The indexes opened the flat, but slid modestly as the day went along, losing about 1% by the afternoon. But many of the leading, high-beta, small-cap names are faring far worse and seeing losses many times that. This is far from the first time we’ve seen this phenomena recently, but we always managed to bounce back after those previous sell-offs. So the question hanging in the air is this also going to bounce right back or is this the start of something more?
As I shared in my March 13th post, early in a move, sell-offs are more likely to be head fakes driven by nervous holders and premature bears, but the further along we get into this, the dynamic shifts as we have fewer nervous holders running for the exits and a greater portion of the sell-off is driven by real selling.
There is no reason to expect we won’t see a bounce this time too, but like with a rubber ball, each bounce is often weaker than the one before it. This is because we are shifting form nervous selling to real selling. Nervous selling bounces like an elastic anti-gravity ball, real selling bounces like a brick. No doubt we’ll see what is left of the buy the dip crowd come in and support these discounted prices, but with every dip, that group grows smaller and weaker and the probability of a greater decline increases. If we do bounce again, that might be a good opportunity to look at locking in some profits and waiting for the next good trading opportunity. Remember, this is about balancing risk and reward. Having come this far, the additional upside is more limited as compared to the air beneath us. But this only applies to the traders out there. Any home run hitters need to fasten their seat belt and mentally prepare themselves for some near term declines.
From a personal sense of well being, the trader who sold out when the getting was good and left some profits on the table is in a much more comfortable position as he is looking at the market for new buying opportunities. Contrast this with the defensive trader who is nervously trying to decide if he should hold or sell. Trading the markets is a head game and often the offensive trader has a psychological edge on the defensive trader in situations like these. And perhaps this is why most of the great traders in history all claim they sell too early instead of waiting for the sell-off.
But this really gets back to the trading strategy that best fits a person’s personality, trading style, and understanding of the markets. Each of us as an individual needs to decide what works best for us and then stick to that. I’m sharing these ideas to show there are alternative ways to approaching the markets and I hope it is providing some incremental value to people.
And one last point, now is not the time for people to rush for the exits. If you plan was to hold through a pullback, then stick to your plan. There are two ways to do really well at this, the first is selling into strength, the second is finding great stocks and hold the dips. The one that gets most inexperienced traders in trouble is holding through strength and then selling the dips.
Jani Ziedins (pronounced Ya-nee) is a full-time investor and writer who has successfully traded stocks and options for more than a decade. He earned a B.S. in Mechanical Engineering from the Colorado School of Mines and an MBA and M.S. Marketing from the University of Colorado Denver. His prior professional experience includes manufacturing engineering at Fortune 500 companies, structural engineering, small business consultant, collegiate instructor, and managing investment real estate. He is now fortunate enough to trade full-time from home, affording him the luxury of spending extra time with his wife and two young children.