The S&P 500 closed January with a bang, finishing at the highest levels in nearly two months. These gains erased almost all of December’s losses. It’s been a wild ride, but one that wasn’t all that hard to predict.
Back in mid-December, I wrote the following about the market swoon and where prices were headed:
While I like these discounts, the looming Christmas and New Years holidays complicate the situation. What would normally be an attractive buying opportunity might struggle to get off the ground since big money is leaving for vacation. That puts impulsive retail investors in charge and that is rarely a good thing. Luckily, these little guys have small accounts and their emotional buying and selling doesn’t go very far. We saw the emotional selling from Thanksgiving week erased the following week when big money returned to work. And the same could happen here.
And that is exactly what happened. Big money left for vacation and fearful retail investors foolishly abandoned their stocks at steep discounts leading up to the Christmas holiday. But just when things seemed their most dire, retail investors ran out of things to sell and we’ve been bouncing higher ever since.
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But everyone knows it’s been a crazy ride. What readers really want to know is what comes next. And like almost everything in the market, the answer “depends”.
Timing is everything in the market. The only thing that determines whether we make money is when we buy and when we sell. This dependency means timeframe matters more than anything else.
The biggest paradox of the market is both bulls and bears can make money at the same time. A bull buys today while a bear shorts, and they both make money if they time their sales right. A bear with a short-term horizon can make money when prices dip next week, while the bull with a longer-term horizon rides the rebound higher over the next few months. They had opposite outlooks, but they both made money.
We currently find ourselves in that position. The market is acting really well and last month’s fears are quickly fading from memory. Anyone with a long-term investing horizon should have been buying this entire dip. The lower prices go, the better it is for them because they get more stocks for their money. What was true last month, is still true today. Unfortunately, too many investors foolishly listened to their gut and were selling the dip, not buying it.
But things get a little more complicated if we shorten our horizon and try to figure out what will happen next week. Everyone knows markets don’t move in straight lines and anyone who expects the market to keep racing higher clearly doesn’t understand how market work. While anything could happen, more often than not, hot markets cool off and pullbacks from overbought levels are a normal and healthy way of consolidating gains.
While momentum is still higher and we could keep drifting that way, there is a lot of air underneath us and each point higher takes away another point of upside. Increasing risks and decreasing rewards makes this is a better place to be taking short-term profits than adding new short-term money.
And while it sounds great that both bulls and bears can make money at the same time, there is no free lunch in the market and unfortunately, more often than not, both bulls and bears end up losing money because they trade impulsively and react to the market’s head fakes. If a person wants to give away money, follow the crowd by dumping stocks after they go down and buying them after they go up. And most people repeat that until they have nothing left. If you want to make money, don’t follow the crowd.
And just to be clearly, I’m most definitely not bearish here. I just think this rally will cool off and consolidate over the next few weeks and that will give us better prices to get in at.
What’s a good trade worth to you?
How about avoiding a loss?
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Tags: S&P 500 Nasdaq $SPY $SPX $QQQ $IWM
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.