Hello again,
As many of you will know: on occasion I’ve ‘ranted and raved’ when the market is not doing what I THINK IT SHOULD BE DOING!!! Well: over three years later I (finally) found an explanation that ‘put my mind at ease’ and, to some small degree, gave me the hope that I have (possibly) NOT ‘totally lost my mind and all sense of reason and the ability to think logically’. LOL!!!
The following is an excerpt from Chapter 16, entitled ‘News’, from the book ‘STREET SMARTS - High Probability Short Term Trading Strategies’ by Laurence A. Connors and Linda Bradford Rashke. Although the excerpt does not APPEAR to relate to forex trading: don’t be fooled i.e. you as a forex trader are affected MORE THAN YOU MAY THINK by the movements in equities!!! (I’ve removed any references to chart examples given in the chapter as they are not significant in the context of this post).
(By the way: it’s a very good book and I recommend it to anyone PARTICULARLY equities traders).
Enjoy:
[I]The markets talk to us all the time. For example, let’s look at December 1994. The Federal Reserve raised interest rates, California’s OrangeCounty was teetering on the verge of bankruptcy, and Mexico was in the midst of an economic freefall after the devaluation of the peso. Any, rational investor would assume that our equity market should go down. Let’s look at this using the same logic the press uses. Higher interest rates? Stocks go down. Municipal bonds default? Stocks go down. Our trading neighbour devalues its currency? Stocks go down. All three the same month? Stocks really go down![/I]
[I]In reality though, the market did not go down. The S&P 500 finished 1.5 percent higher for the month. What was the market saying? It was saying, “I don’t care about higher interest rates or an economic crisis, I’m going higher!” And that is in fact what happened. Over the next 10 months, the Dow Jones appreciated over 30 percent.[/I]
[I]This type of market talk occurs all the time. Let’s look at an example of a day-trading opportunity that occurred on September 13, 1995. The S&P future was up a few points when IBM, one of the stocks that led the 1995 bull market, told analysts it would not meet earnings expectations. Logically, this should have hurt the market. Here is the leading technology stock in a high-tech industry driven market telling analysts business is not as good as everyone thought. IBM sold off sharply after the news release, and the S&P’s initially lost 2 1/2 points. However, the sell-off was quickly shrugged off as the market said, “I don’t care about IBM, I’m going higher!” The S&Ps immediately reversed and rallied three points. The next day it rose another five points![/I]
[I]The ability to trade by using reverse logic is not easy. You must discard all your preconceived notions and opinions in order to truly listen to the market and recognize when it is acting like a contrarian. If you can do this, it is one of the most valuable trading concepts. A well-known market wizard said that nearly half of the 100 million dollars he made from trading came from the times he was able to identify when the market was defying the so-called logic and moved in the opposite direction.[/I]
[I]This concept can also be applied to seasonals. Some of the best trends can be counter-seasonal moves. Just look at how the wheat market in the summer of 1995 defied the normal downside bias. The bottom line is, instead of trying to show the market how smart you are, take a step back and let it talk to you! It’s much smarter to observe the market’s response to a news event, seasonal tendency, or technical setup than it is to attempt to impose your beliefs on it. This is what true street smarts is really all about.[/I]
[I]Logical thinking will lead you right to the poor house. The majority of traders in the United States (us included) were raised in some version of a typical American upbringing. We went to school for 12 years, went to our proms, played organized sports, belonged to a youth social group, etc. Many of us then went on to a four-year college preparing for employment or graduate school. No matter how much you want to believe you are an individual, the overwhelming evidence shows that your thought process is not that much different from most other traders. This type of upbringing allows you to see the world logically, and it is this logic which is used by thousands and thousands of traders to make decisions: bad crop report-soybean prices logically go up, bad inflation news-bond prices logically go down. There is no trading edge whatsoever in trying to base decisions on what the market should logically be doing. In fact, the more logical something is, the more likely you will lose when the market is moving in the opposite direction of the prevailing logic.[/I]
Regards,
Dale.