Stocks sold off for a third straight day and are testing prior support near 1,770.
Emerging market fears continue embroiling stocks and buyers are unwilling to step in front of this selloff. This price decline is shaking the resolve of previously confident owners and many are choosing to sell this weakness rather than endure the pain of seeing the market fall any further.
As rational traders, we need to decide if currency issues in Turkey and Argentina will materially affect the US economy and corporate earnings. In years past we’ve seen our markets tumble over downgrades of US debt and the risks of financial contagion in the Eurozone. Those issues threatened our financial infrastructure and brought flashbacks of the 2008 meltdown. Obviously we cleared those terrifying hurdles on our way to all time highs last year. In the big picture current emerging market issues are far less threatening to our economy and will likely pass through the system even quicker.
This selloff is more about sentiment than fundamentals. We should ignore these relatively minor headlines and instead focus on how other traders are responding to this weakness. Most traders are not overly concerned about these fundamental issues on the other side of the globe, but there is just enough uncertainty to make them nervous. Then when they see everyone else panic and run for the exits, it is hard to resist the urge to join the hysteria. Everyone knows markets go up and down, but it is easy to forget that when we see prices tumble.
The last three days of weakness has flushed out a large chunk of the excess enthusiasm. Dramatic moves lower chase off most of the holders who are inclined to sell. Those owners still holding are far more confident in their analysis and not interested in selling no matter what near-term moves the market makes. It is on the backs of these confident owners that the market will find a bottom and bounce higher. This periodic purging of weak owners is how markets refresh themselves. Recent sellers and shorts will eventually push the market higher when they buy back in over coming weeks.
Expected Outcome: Cautiously bullish – buy weakness
Everyone wants prices to pullback so they can get in at lower levels, but every time the market gives us what we ask for, many are too nervous to take the gift. Profit opportunities come from volatility and this weakness is exactly what we want to see. Emotional owners are selling at discounts as compared to what they thought stocks were worth last week and that creates profit opportunities for those willing to take a risk. We buy their fear and sell their greed.
Every 20% selloff starts with that first 4%. While the market could bounce at any time, there nothing more effective at shattering confidence than a relentless selloff. While these headlines seem unworthy of a large decline, the market rarely does what we expect it to do and if the crowd reaches full-blown hysteria, there is no telling what it could do.
Buy weakness and sell strength. Define your risk and take what other traders are giving away.
AAPL earnings are on tap after the close. The stock is up quite a bit from last year’s lows and it will take impressive results to continue the recovery. If the company blows away expectations, look for the strength to continue. If bulls don’t get what they are hoping for, the stock will struggle as it runs out of catalysts to justify high growth expectations. This earnings will like set the tone for the next three months of trade, so go with the momentum.
Plan your trade; trade your plan
Jani Ziedins (pronounced Ya-nee) is a full-time investor and financial analyst that has successfully traded stocks and options for nearly three decades. He has an undergraduate engineering degree from the Colorado School of Mines and two graduate business degrees from the University of Colorado Denver. His prior professional experience includes engineering at Fortune 500 companies, small business consulting, 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 children.