The right way to predict the market

Cracked.Market University

Q: Is it possible to predict the market?

A: Yes……..and No.

Spend any time in trading circles and invariably someone will scold you for trying to predict the market. “It is impossible!”, they claim.  There are even popular books written about how trading is a fool’s errand and beating an efficient market is only possible through random luck. But my retort to these accusations is, “Why is it so hard to predict something when it keeps doing the same thing over and over again?”

The Dow Jones Industrial average stretches back to the end of the 19th century and gives us well over 100 years of price data. Can anyone point to a time in history when a dip/correction/crash wasn’t buyable? Heck, show me a time when buying the top of the market didn’t turn out profitable? (Excluding last week’s selloff since it hasn’t had time to recover yet!)

To me, it is pretty clear, as long as the Dow index and stock market survives, every dip is buyable. (At least until civilization ends and if that happens, people will have bigger things to worry about than the value of their 401k!)

Okay, so if we assume every dip is buyable, when the market dips and we claim the market will eventually bounce back, isn’t that a prediction?

What about when the market opens with a brutal 3% plunge like we saw last Monday? From what I know about markets, extreme moves almost always end in even more extreme moves. There are very few one-day panics and that meant further panic selling was almost guaranteed. That sounds like another prediction to me.

And how about the idea that the market always overshoots. That tells us any selloff almost always goes too far and inevitably snaps back not long after it starts. Isn’t that also a prediction?

Now for the “No” part of my initial answer. While we know with near certainty what the market will do, the challenge is we don’t know exactly when it will do it. It is easy to say, and almost certainly correct, to claim last week’s dip is buyable. The problem is our stock purchases and sales occur at an exact moment in time and the only thing that matters to our bank account is where prices are when we bought and when we sold. (or sold and bought for a short trade)

But just because we don’t know the exact where and when doesn’t mean we cannot make intelligent trades with what we do know. If we know the next move will be huge, but don’t know when it will start or which direction it will go. All we need to do is jump aboard anything that looks like a move in one direction or the other. Keep a nearby stop. And see what happens. While we might get shaken out a time or two by some head fakes, as long as we start small, buy smart, and keep a nearby stop, any initial losses are trivial. Especially compared to the towering profits by being in the market at the right time and pointed in the right direction.

While I cannot tell you exactly what level the market will close at tomorrow. I cannot even tell you if the day will finish red or green. But I can tell you tomorrow’s move will be big and volatile. That information is tradable and most likely very profitable for anyone with a sensible trading plan. I didn’t know last week’s selloff would fall all the way to 2,855.84, but I didn’t need to know that in order to profit from the four consecutive violations of the previous day’s close.

And the same goes for buying Friday’s bounce. I was wrong buying the four prior bounces, but as long as I started small, bought right, and kept a nearby stop, eventually I was in the right place at the right time and rode Monday’s tremendous move higher.

While it has been a great week for many of us, rather than be lulled into complacency, I know any bounce wouldn’t last and is why I was happily taking profits yesterday afternoon when everyone else was breathing a sigh of relief.

Predicting the market isn’t hard. We just need to know our history and follow a sensible trading plan.

What comes next? Easy, a lot more volatility. Figure out how to trade sensibly that and you will be golden. (Easy, buy the dips, sell the rips, take profits early and often, and repeat as many times as the market allows us.)

Sign up for FREE Email Alerts to get profitable insights like these delivered to your inbox every week.

What’s a good trade worth to you?
How about avoiding a loss?
For less than $1/day, have actionable analysis and a trading plan delivered to your inbox every day during market hours

Follow Jani on Twitter @crackedmarket

Tags: S&P 500 Nasdaq $SPY $SPX $QQQ $IWM