The market rallied into Friday’s close, but the move was obviously not sustainable given this morning’s dismal open and early trade. It appears Friday was nothing more than a head-fake, sucking in premature bottom-pickers and shaking out weak shorts. If this morning’s 1.5%+ decline holds, it will result in the market falling back into Market in Correction.
I suspect this down-leg is at least halfway through its move as many of the previous bulls and breakout buyers have already bailed on their recently initiated long positions. 1300 is easily within reach, but the bigger question is when will the market bounce? If this remains a technical correction, it will run out of sellers soon. Outside of unexpected bad news, the market will most likely find support between 1300 and 1280. Of course sell-offs can develop a life of their own as selling begets more selling, but I think there is a strong possibility this leg down does not mark a new low. Of course over the intermediate-term I still think the market is stuck in a trading range and the best way to trade this market is swing-trading; ie buying the dips and selling the rallies. It will most likely be another month or two before we can buy the breakout.
Much like my March 13th analysis of a head-and-shoulders pattern, we also need to make steady progress transitioning from impulsive traders moving the market to real trades coming from institutional managers driving the market. Impulsive trades rarely stick because there is no weight to this short-lived phenomenon. Once all the impulsive traders make their move, the market quickly reverses because it lacks follow-on buying (or selling) from big money. But with each successive failed move, the balance shifts from impulsive to real as the impulsive trader is less like to participate in the follow-up moves after being burned and losing money on the first or second failed breakout. With the impulsive traders sitting out subsequent breakouts, it is far more likely for those to stick because these later moves are driven by a larger percentage of real buying (or selling) from the big institutions. I did a better job explaining this phenomenon in my March 13th post if you want to read more about it.
I continue neglecting my watchlist in this environment simply because high growth stocks are so volatile. They are up and down in dramatic fashion depending on the whims of the market. The only good time to own high-beta stocks is when there is a strong and consistent wind at your back during a nice up-trend. I’m still trading, but through index ETFs because these are far less volatile and more predictable in this environment.
As for predicting the market, many gurus say it is a fool’s game, but obviously I beg to differ. The big difference comes from what data people use to make predictions. It seems most experts are looking at the wrong things when their predictions fail to work out. Sports make for a good analogy to this phenomenon. A defender always looks for clues for which way the ball carrier is headed. It is our natural tendency to look for cues in the head and eyes, but this can often be misleading and is the source of the term head-fake. The ball carrier will often fake out the defender by moving his head and eyes one direction while moving in the other. An inexperienced defender falls for the head-fake and goes the wrong direction, allowing the ball carrier to easily run by. But a more experienced defender ignores the head and eyes and instead focuses on the hips. While it is easy to move your head and eyes, the hips are far more difficult to fake. You go where your hips are pointed and is why a defender who cues from the hips will have far more success than one who follows the head and eyes.
When it comes to the markets, it is also always trying to fake out traders and many times the fundamental and technical data send out misleading clues. (I’ll get into why this is in a later post) This is why I don’t put much weight in news or technical levels. Most of my analysis is figuring out what other market participants are thinking and how they are trading the market. The market is nothing more than a trillion-dollar popularity contest. Get in the mind of other traders and suddenly the irrational and unpredictable behavior starts making sense. It is never about what the market should do; it is about how market participants are positioned and what they expect. Follow those clues and you’ll have far better success in anticipating the market’s next move.
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.