Stocks paused after setting new highs yesterday. We are at the upper end of a two-week consolidation that started in the final week of 2013. Weak markets roll over quickly, so holding these levels for two-weeks suggests the market is not on the verge of collapse. That leaves us with the two remaining possibilities, breakout to new highs or continue consolidating.
Monday’s selloff flushed out many weak hands. While not as effective as a bigger selloff, churn like this keeps the rally from overheating. Breaking under prior support triggered a wave of stop-loss selling from recent buyers and aggressive shorting by bears. Those sellers will provide fuel for the next leg higher when they buy back in at higher levels.
Holding current levels for a few weeks suggests this market is on solid footing. Most likely this it will trade sideways for another week or two before continuing higher. Of course sideways is not a synonym for easy. Monday’s plunge was part of this sideways trade and consolidations only work if the dips convince many traders a collapse is imminent.
Without any fear priced into the market, we are vulnerable to an unexpected headline that catches the market off guard. Markets have a tendency to overreact, so when this unexpected event surprises us, look for the market’s imagination to blow things out of proportion.
Bears need a spooky headline to shake the confidence of complacent owners. Until then expect every bout of selling to stall quickly as confident owners continue holding, keeping a lid on supply. For bulls, markets never go straight up, so take profits into strength and buy the dip. Longer viewed owners can continue holding on for higher prices.
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.