Hitting the Bottom

October 8, 2008 at 5:03 am · Filed Under Educational 

In down markets I’ll often say to wait for the market trend to reverse before entering any new long positions.  I can’t say enough that you shouldn’t try to catch a falling knife, and patience in crashing markets is the key to your financial survival.  I’ve talked about looking for trends and reversals before, so here’s a supplemental piece that expands on spotting market-wide bottoms. 

Whenever the market is crashing, there will be days that plunge hard, followed by strong bounces.  In order to not drive yourself crazy following all the volatility, you should be looking at weekly charts of your favorite index.  Looking at daily charts will just give you too many false bottom signals and the stock market in general doesn’t move that quickly.  Look at some index charts like the S&P 500 over the past 50 years and you’ll notice that the trends last for years, not just weeks or months.

Now that you’re looking at the right charts, start looking for some support (and I don’t mean a jockstrap).  When the surges downward stop making new lows, they’ll often form a double or triple bottom.  This is one of the strongest chart patterns out there for stocks, and when it breaks out on the market level you can make a whole lot of money.

image

Above is the chart for the recession at the turn of the century.  You can see that the market hit the bottom in 2002 and then took months before it really took off again.  If you look at any other market crashes, like in 1987, you’ll see similar bottoming action.  Of course in 1987, the crash occurred over an extremely compressed amount of time, but once at the bottom you’ll see the same sluggish recovery.  I don’t think a diving market has ever stopped on a dime and changed directions to form a V bottom. 

A lot of people get scared that they’re going to miss out on the big gains so they try to time the bottoms.  Or maybe they just like buying lots of stocks for "value" because they enjoy telling people that they caught AAPL at the very bottom.  Of course they always fail to include that they bought into GOOG, FSLR, and DRYS along the way for 50% more too.  Just relax though, you’ll still have plenty of time even if you’re late to recognize the reversal.  The cost of guessing wrong the other way is much more expensive.

Comments

Comments are closed.