Stocks opened almost 200 points higher yesterday, answering the question, �What would the market do if good news occurred?� The good news that caused the big opening again had its source inEurope, as their appeared to be an agreement on how to handle the complex financial issues that threaten to destroy the EU. But when it was clear that not all members were in agreement, theU.S.stock markets gave back a substantial amount of the initial gains, but still retained an increase of about 1.2%.
Volume on the NYSE totaled 1.2 billion shares, and the Nasdaq crossed almost 600 million shares. Advancers led decliners by 4-to-1 on the Big Board and 3-to-1 on the Nasdaq.
Yesterday I provided charts from October 2008, illustrating how the high volatility of a typical bear market rally could dissuade most investors to give up their short positions and go to the long side only to be whipsawed with losses on both short and long positions.
The above chart of the S&P 500 shows that the next area of resistance to the current bounce is at the 50-day moving average at 1,208 — that�s over 7% from Thursday�s close. If a trader had taken a position in a 3x inverse index ETF on Thursday�s close at 1,130 and held the position through yesterday�s close at 1,175, his current loss is about 12%. And if he continues to hold until the rally reaches the first resistance, he would be under water by over 20% and no doubt thinking of selling, going long, or even worse, doubling up.�
The correct action of course is to stop out the position at a small loss and come back into the market at a higher level. Traders must accept the fact that bear markets are characterized by very high volatility, and so even if they have the direction right they will often have the timing wrong.
Trading tip: Avoid taking positions on the opening trade since high volatility often creates gaps at the open that are most often followed by a move back to a standard mean. Also, traders should be very cautious of holding highly leveraged ETFs overnight, especially under conditions where news from countries in other time zones can have impact on our opening prices.
The S&P 500�s reaction bounce faces numerous areas of technical resistance. The first is the 50-day moving average at 1,208, then the neckline at 1,265, and the 200-day moving average at 1,282. Use these areas as opportunities to purchase inverse ETFs or buy put options. (Speaking of options, my colleague Joe Burns has some trades that might interest you.) But if you get the timing wrong, get out to fight another day.
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