Definition of insanity: doing the same thing over and over, yet expecting a different result. Bears are regrouping and doubling their efforts to short this ‘overbought’ market, but there is no reason to expect this time will be any different. Markets are modestly lower, but that is actually demonstrating bullish strength. Bears and profit takers are stubbornly fighting against this rally with everything they have and the best they can do is a fraction of a percent decline. This pullback is a healthy part of moving ahead. And the more people who disagree with me, the more confident I am in my bullish position. In fact, I hope we go lower and suck in more bears and shake out more weak holders to clear the way for the next move higher.
The market is continuing support of last Thursday’s huge rally. The indexes are down slightly, but given how far we came last week, this morning’s givebacks are fairly trivial. The interesting thing from a sentiment perspective is how few bears are ready to acknowledge defeat. Many are sticking to their guns and re-shorting this new high after getting blown out last week. How much pain are these guys willing to subject themselves to? But their pain is our gain. If they want to keep giving their hard-earned money to bulls, that is their prerogative.
Rather than everyone rushing in to buy the breakout, I continue seeing pros and amateurs alike say things like “the market is extended”, “take your profits”, “I’m in cash.”, “I’m shorting this breakout”, etc. This is the ‘contrarian’ trade. Except it isn’t. The contrarian trade is going against the crowd, not the trend. And to me it seems the contrarian trade continues to be buying this market in spite of all the reasons not to.
There are a lot of risky headlines floating around, but remember anything widely known is already factored into the price. In fact, most often the market over estimates actual risk, meaning there is a high probability the real risk is less than the perceived risk. This difference gives the savvy investor an arbitrage opportunity. Buy when traders are fearful and sell when traders are confident.
Prices move up and down because the market gets its projections about the future wrong. Figure out if the market is obsessed with risk or ignoring it. This will give you the best indication which way the market is inclined to move. Remember, we are not talking about price here, but sentiment of the crowd. Don’t let price moves fool you into joining the crowd. Step back and only look at what traders are saying and how they are position themselves. Currently skepticism continues to be the rule and that is why the market will continue higher.
The market is digesting Thursday’s big gain and all the profit takers and new shorts are unable to pressure the market as this price level is receiving a lot of support. Thursday’s short squeeze demonstrates just how much bearishness there was in the markets and my qualitative survey of various media outlets and investor forums shows few bears are ready to give up the fight. This rally has been most volatile to the upside and the declines have been small and slow. We’ll probably continue that trend. Each time the perceived weakness sucks in the bears and that primes the pump for the next explosive move to the upside.
Of course this pattern won’t continue for much longer. Soon the market will start wedging higher as the obvious rally converts bears and reluctant investors into buyers of this market. At that point the steady stream of buying will cause the market to wedge higher. But that calm is a warning that we are about ready to run out of buyers and we should lock in our profits.
The long trade continues to be the best trade. We might see a modest pullback as we digest last week’s big move, but this is normal profit taking. The market maintains its trend of higher highs and lower lows. This is a better market for longer time frame position holds and not so good for shorter term swing trades. Find the things that are working and hold on for larger gains 20% gains. But don’t get greedy. Be willing to lock in profits and move on.
MLNX is having another horrible day, down 8%. Silver lining is it’s finding support at the 50dma. But that is minor consolation to someone who chased the stock the last few weeks as it wedged higher. Wedges after a big move show chasing and in most instances are not sustainable.
The thing we always need to remember is market is never easy. Anytime you feel like a genius, you need to look behind for that sledge-hammer that is about to crush your skull. MLNX was an easy and obvious trade and it was a complete disaster for anyone who was sucked in by that tranquility.
Ironic thing is the stock is far less risky after that plunge than it was during its steady climb higher. The violent shakeout could be clearing the way for a move higher. Watch how it holds up around the 50dma and it could present a buying opportunity. But don’t get ahead of the gun on this one since it could easily head back down to $40 in the blink of an eye.
URBN and UNFI keep heading higher after their breakouts. These have also been easy rides so far, but don’t let that lull you into complacency either. The big difference I see is it seemed like everyone was talking about MLNX when it broke out. URBN and UNFI seem to be more under the radar and that makes them less susceptible to a MLNX like crash. But I said, less susceptible, not immune. Nothing wrong with taking profits and moving on to the next opportunity. The key to succeeding in the markets isn’t making money, it’s keeping money.
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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.