There is a fine line between success and failure � and in this market, that fine line is separating stocks from what could be a recovery and additional downside action.
In whatever direction the market chooses, there will inevitably be money making opportunities. However, patience will be key in the following days and weeks as the market attempts to sort itself out. You�ll need to be prepared � and be aware of the possible pitfalls � if you are going to be putting your trading dollars on the line.
First, avoid going all-in on the short side. It has been very tempting to sell short momentum stocks in this environment. Many of these names became overextended during the summer months and became attractive short opportunities during the August correction.
However, shorts have been absolutely decimated twice in October as equities have fought for higher ground:
At the very beginning of the month, stocks staged a spectacular 3 p.m rally, igniting a short-covering frenzy that pulled the market from the drink of disaster (red circle). Yesterday�s action was very similar � a sharp drop at the open that eventually led to a significant rally during the last hour of trading (blue circle).
Even with stop orders in place, it is doubtful that a trader would have been able to cover at his desired price. All in all, it appears that way too much money is headed to the short side as the market approaches major areas of support and resistance. It would be wise to seek additional confirmation at these important levels before betting too heavily on the long or short side.
Next, it�s becoming obvious that when it comes to market sentiment, Europe is in the driver�s seat. Yesterday�s price action is proof enough of this. Just the whiff of European bailout rumors was all it took to march stocks back toward resistance in just 12 minutes of non-stop buying. Unfortunately, this tells us that continued negative Eurozone news could have the opposite effect.
As I�ve written a few times before, I want to see this market shrug off bad news out of Europe and move higher. An event like this would be a true mark of a change in sentiment for the better. For now, I believe many traders are still waiting for the other shoe to drop.
Until this mentality is squashed, an honest attempt at a recovery in equity prices might have to wait…
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