How Top Stock Traders Mentally Deal With Sudden Market Reversals

[morpheustrading 10]

After suffering a nasty, two-day decline on October 8 and 9, the stock market ripped higher on October 10, closing the day with massive gains of more than 2% across the board.

 

Feeling a bit of whiplash lately?

 

While the big gains with bullish closing action on October 10 were a positive sign for the market, that powerful and sudden reversal immediately put traders who just stopped out of stock trades into regret mode, one of the Four Most Dangerous Emotions For Traders.

 

Driving A Car While Staring In The Rear-View Mirror Is Hazardous To Your Health

 

Regardless of whether or not you sold your stocks at lower prices and are now feeling regret, let’s get one thing straight…

 

This is not the time to be worrying about what happened in the past because you must be focused on what is happening NOW!

 

Whenever traders mentally struggle over whether or not they made a correct trading decision, such as if they bought or sold at the right time, they will often be wrong…but that’s completely okay!

 

What is not okay is to STAY wrong! If you’re wrong, simply move along.

 

During the whipsaw action of October 8-10, you may have found yourself stopped out of a stock position that subsequently made an abrupt u-turn and once again looks to be in good shape.

 

If this happened to you, the correct thing to do is to calmly and objectively jump back into the trade (even if you need to reduce your share size a bit to make that happen).

 

The current daily chart of Michael Kors ($KORS) is a good example of a stock that can be re-entered, even if the trader was recently forced to sell:

 

 

When $KORS sliced through key support of its 50-day moving average on October 8, it undoubtedly triggered many sell stops (which was the correct thing to do).

 

However, just two days later, $KORS jumped back above support of 20 and 50-day moving averages, and back into its prior range.

 

As long as $KORS holds the newly reclaimed support levels, it is valid to re-enter the stock (regardless of one’s previous outcome in the trade).

 

Remember that each new trade entry is completely independent of itself.

 

Furthermore, we have learned over the years that trade re-entries (after stopping out because we bought too early) are often the most profitable trades because the “shakeout” absorbs overhead supply that would have otherwise created additional resistance on the way back up.

 

Just one note of caution, though, with regard to re-entering trades: Don’t confuse re-entering a bullish stock with “revenge trading,” which occurs when a trader re-enters a stock that fell apart, but still has not shown a valid technical reason to get back in (ego, be damned).

 

Now What?

 

Yesterday’s strong gap up was certainly a bullish sign, and we could see a solid, broad-based rally develop if the recent lows in the major averages hold up.

 

Unfortunately, yesterday’s volume was lighter in both exchanges, meaning the rally was not led by banks, mutual funds, hedge funds, and other institutions.

 

Nevertheless, with so many stocks changing hands the past few days, it’s quite apparent that buyers were stepping in to accumulate leading stocks off the lows. Just check out the charts of $LNKD, $KORS, and $TSLA to see what we mean.

 

Although we reduced our long exposure on October 8, our remaining stock positions are still in pretty good shape.

 

U.S. Silica Holdings ($SLCA), for example, has shown incredible relative strength over the past few days, as the stock basically ignored the October 8 sell-off.

 

Below is an annotated chart of $SLCA that we recently posted on our new Google+ page:

 

 

When a stock breaks out with strong price and volume action, it is always a very bullish sign. In fact, price and volume are the two most important and powerful technical indicators at a trader’s disposal.

 

We all have the urge to lock in profits at times, but to make the big money in trading, one’s focus must simply be on consistently doing the right thing.

 

If a trader does so, the large profits will eventually follow.

 

Overall, we feel that $LNKD, $KORS, $YELP, and $TSLA are the top dogs in this market right now, and are “must own” stocks for institutions.

 

As of now, we view the recent shakeout action as a buying opportunity (with stops placed beneath that week’s lows).

 

Either the lows of October 8 and 9 hold up, or the market will end up going much lower over the next few months.

 

As always, remember to trade what you see, not what you think!

[Logic 10]

Morpheus

Reading your posts are like reading quotes out of my book. The rear view mirror statement and trading what you see are my classics. Use them with my pleasure. :-)

 

They are great tidbits that most traders either don't understand or can't imagine how it applies.

 

I'll add a couple other options, if I may.

 

I personally and primarily stay away from daily stock charts, for trading decisions, because of their erratic behavior. I watch a basket of stocks but have learned to lightly speed up my view of their price action, using range bar charts, as to get a heads up on reacting to those nasty declines you talk about or even price ripping higher. I invented constant volume bars but have found range bars to be even more beneficial.

 

Nice to see some intelligence in reading price action. Well done!