(By Greg Guenthner) Your money is in danger when the market's trend is in flux. Whether you are long or short, you could suffer significant losses as bulls and bears fight for control.
This market is a minefield. You must prepare to deal with unpredictable prices, panic, and disorder. Ever since stocks began to sputter, investors have frantically jumped back and forth between long and short positions. Most of the time, the crowd has been dead wrong.
You cannot afford to be a delirious stock-chaser. In fact, your actions during the market's most turbulent weeks will ultimately determine whether you will hang onto first quarter gains — or lose everything because of a few poor decisions.
MacNeil Curry, head of foreign exchange and interest rate technical strategy at Bank of America Merrill Lynch, offers the perfect explanation of the market's mob mentality. "We lose our minds collectively, but we come to our senses individually," he said.
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These words of wisdom are especially true today. The market's quick drop has punched unsuspecting investors in the face. Now, as we struggle to get back up and regain our senses, it's important to use the market's collective insanity to your advantage.
Wait for confirmation before you act.
There is no prize for someone who guesses on a trend early. This rule is especially true when the trend is changing in the blink of an eye.
It's never smart to guess on a breakout (or a breakdown) before it happens. You'll be right sometimes, but wrong enough to offset any of the gains you booked when you got lucky. When the market is coming back to its senses, stocks will suffer from countless false moves. Breakouts will fail. Or a stock will break above a key moving average and then promptly fall below it the very next day. Indecision reigns supreme right now. Many traders will shorten their time horizons, meaning they will take profits almost immediately after a trade turns green.
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That's why waiting for confirmation is so important. If you're attempting to trade a breakout, wait for the stock to retest the breakout zone and move higher before buying. Once the traders with shorter time horizons have been flushed out of a trade, additional buyers stabilizing the stock and sending it higher signal that the breakout was real. A retest of the initial breakout is additional confirmation that resistance has turned into new support. Buyers are willing to pay higher and higher prices for the stock, allowing the new trend to develop.
Avoid crowded trades.
Twitter has become a fascinating hub of stock market opinions. Every day, millions of market watchers share trade ideas, brag about their winning moves, and argue with those posting dissenting opinions. It's the perfect place to go to see how investor psychology shapes the markets.
Take Apple Inc., for instance.