How to Trade This Weakness

By Jani Ziedins | End of Day Analysis

Jan 14

Screen Shot 2016-01-14 at 7.27.30 PMEnd of Day Update:

Thursday was a good day for the S&P500 as it recovered a big chunk of Wednesday’s bloodbath. While we are still struggling to make headway, this was the third up-day out of the last four. How you interpret this price-action largely depends on your biases, but it is a notable change from last week’s relentless selling. This also marks the seventh consecutive day of above average volume. Thursday’s trade reached the highest levels since December’s options expiration and September’s option expiration before that. Clearly a lot of people were paying attention and trading this volatile session.

The weekly AAII sentiment survey revealed optimism is at the lowest levels in over a decade while pessimism reached multi-year highs. In this historically bullish survey, bears outnumber bulls by whopping 250%. Anyone claiming the market is overly bullish is delusional with confirmation bias because they clearly don’t see everyone running around with their hair on fire. While we might not be at the bottom yet, this dramatic swing in sentiment and huge volume means we are getting close. The last time we saw this much volume was back when August’s selloff was bottoming.

Screen Shot 2016-01-14 at 7.33.18 PMThe only thing moving this market is the price of oil. Does this make sense? No, but this is how the crowd is thinking and thus the only thing that matters. But with each passing day and tic lower, we are shedding owners who fear falling oil and replacing them with buyers who don’t mind cheap oil. Maybe these calm buyers realize oil production represents less than 1% of U.S. GDP. Maybe they are experienced investors who know these stories always come and go. Remember the Bird Flu pandemic? No? What about the Fiscal Cliff? Sequester? Taper? US debt downgrade? This tells you just how big of a deal most of these things turn out to be.

But oil isn’t the only thing scaring investors. We have a strong dollar and slowing global growth that will allegedly crush our exporters. But the thing is all our exports together only represent 13% of GDP and only 5% of that demand comes from Asia. While knocking off a few percentage points won’t help our sluggish recovery, it certainly won’t cripple our largely self-centered, service and consumption based economy either.

But the market never lets common sense get in the way of a good stampede for the exits. There are two ways to trade the stock market. Buy at a premium and sell at a discount. Or buy the discounts and sell them later at a premium. Just like any successful business, buy at wholesale and sell at retail. Just think about that when you are tempted to join the emotional sellers. There has never been a dip in the history of the stock market that wasn’t buyable and this one is no different.

Jani

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About the Author

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.

I’m with you on the sentiment being overly bearish but what if we break support in SPX? Nothing but air below to low 1700’s.

    Jani Ziedins January 15, 2016

    Technicals are a guide, not a rule. We stop going down when we run out of sellers. Earnings season is starting and if that flops, low 1700s is certainly possible. But I doubt oil alone will get us there.

      Ian January 15, 2016

      How about a continued deterioration in the ISM index for 2016? Today’s negative Empire State reading, a likely precursor of January’s ISM number to be released in early February, could be foreshadowing a possible recession for later this year.

        Jani Ziedins January 15, 2016

        The need to predict the future is what makes this game so difficult. Clearly things are not great or else the market wouldn’t be down 12% right now. What is the right price for future growth? While no one can say with certainty, I do know the market overdoes it no the downside during these periods of heightened uncertainty. If the right price is -5%, then we will travel through -10% on our way to -5%.

        While Chinese weakness, strong dollar, and weak oil are certainly headwinds for specific sectors of our economy, most likely the predictions of widespread credit defaults, contagion, and collapse are overblown. During periods like this the market fixates on the worst possible outcome and bounces when things turn out less bad than feared. The key for the speculator is timing these gyrations.

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