Stocks are down fractionally for the first time since the 1600 breakout.
We cannot rally every day and today’s pause is normal, expected, and nothing to fear. That doesn’t mean we cannot selloff more in coming days, but it is extremely premature to call this a top.
I keep coming across confusion about contrarian investing and what it really is. Contrarian investing is based on crowd dynamics, yet most people mistakenly associate it with technical analysis. Technical traders have momentum and overbought/oversold indicators, but these are based entirely on chart patterns. Contrarian trading is going against the crowd and has nothing to do with charts. It focuses on what other traders think and how they are positioned, nothing more, nothing less.
Many traders wrongly think of themselves as a contrarian when they short a stock that’s “gone too far”. But more often than not, the right contrarian trade is betting on a continuation of “too far” when the crowd remains suspicious of a move. NFLX, LNKD, AMZN are all examples of expensive stocks that keep getting more expensive. The contrarian investor goes against the crowd, not the price. When everyone loves something the contrarian shorts it. When the crowd don’t trust the market, the contrarian buys it. It doesn’t matter what the chart is doing. This market is up 300-points in half a year because no one trusts this market. Anyone who went against the trend missed easy profits. The contrarian who went against the cynical crowd made easy money.
The distrust of this rally remains extremely high. For all the talk of how overly bullish this market is, it is darn hard to find any of these bulls in the flesh. Here is another Yahoo Finance poll that shows just how suspicious traders are of these levels. People make the mistake of assuming everyone is bullish in a rising market, but that is clearly not the case with this market. All these cynics are underweight the market, meaning most of the selling pressure is behind us. The only thing these cynics can do is change their mind and chase this market higher. These two reasons are why this Teflon rally keeps going.
Stick with what is working. Markets move two-steps forward, one-back, and a little consolidation after recent gains is normal and healthy. As long as traders remain suspicious of this rally, the uptrend will continue.
What goes up must come down. Watch for cracks in this rally in the form of lower-highs, lower-lows, and breaking key support. Until then stick with the trend.
Swing traders can take some profits off the table after the recent three-week run. Those out of the market should resist the urge to chase and wait for a pullback or consolidation. The only traders who can short this market are the extremely nimble day-traders and they need to take profits early and often. Until something changes, expect every dip to bounce. Former resistance at 1600 should now act as support and as long as we remain above this level, the rally is intact and healthy.
AAPL is consolidating gains near $460. Seeing buyers step up and continue buying at these levels is encouraging. AAPL’s growth story remains uncertain, but the company generates a lot of money and increasing its dividend makes the stock attractive to income investors. But if income investors are coming to the rescue, don’t expect prices to take off because these investors are very price and yield sensitive. They don’t chase the next big thing the way growth investors do and is why popular income stocks like MSFT and WMT have been unexciting even though revenues and earnings continue growing at both companies.
AMZN is making a break for the 50dma. We are allowed to have opinions in stocks like this, but we must always trade with discipline. Keep position sizes small and use hard stops to get us out when we are wrong. Bears should continue watching this stock for further signs of weakness, but wait for weakness to develop and don’t short anything simply because it is too expensive. Bulls should wait until we break above this consolidation on volume. This will keep both sides out of this unproductive slop between the 50dma and 200dma.
Plan your trade; trade your plan
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.