DJIM #32

Last week we saw what was perhaps one of the most volatile week in the entire year so far.    Fittingly, we ended the week at the lowest point of the week and of the last three months.    No doubt, we all know the cause that is driven the heightened emtional state of many market participant by  now.     So what we all like to know now is  "does this time resemble the last nasty selloff back in early March"?     When we compare major selloffs of different time, there's always similarities and differences which we can point out.    When it comes to dealing each selloff, however, we really have to rely on the unique facts that are respective to each situation and come up with a good strategy.

We want to frist point out that a major selloff does not automatically mean that the market is going into the bear mode.   It simply means that the previous(bull) trend is broken, for now.   What most likely would happen after the selloff is the inevitable consolidation which eventually leads to a new trend, either bull or bear.    Unfortunately at this moment, we may not be at the end of the selloff and potentially further  decline is still on the way.  

In our opinion, there's a few things that are giving this market the kind of heachache that is challenging to overcome.   First, credit crunch is a real deal and the negative impact from the subprime lending will probably not be fully assessed in a while.    This means that market participants will constantly trade in fear that something bad can happen.   We do not like fear and it's tough to hold onto positions when everyone is jittery.   This kind of trading emotion does not drive a bull market.   Second, we are nearing the end of the earning season and frankly there has been some misses from some key technology companies, whether you like it or not.   This puts on a lot of pressure for market participants because they'd be less optimistic about the next earning quarter.   Then, there's a long wait before the next eaning quarter and if you aren't optimistic, why would you hold onto anything?   Third, we have this seasonality factor and August has always proved to be challenging to traders.      So, you can say market is dropping solely because of the subprime issue but we conclude that there's a combination of things that are at work here.    The bottom line, we think we are in for a tough environment at least through August.

Now, how do DJIM traders deal with this kind of market and here's a few things we'd like to share with everyone....

EXPOSURE, basically, the less exposure we have in this market, the better we'd be dealing with this market.   To us, it's crucial to limit our trading exposure because we're more likely to encounter uncertain setups, and possibly make mistakes along the way in this kind of market environment.   Reducing exposure means cutting down the number of positions at any given time dramatically and cutting down the size of each play to the bare minimum.  We don't want to completely give up trading in a tough market because that's just simply not what we are.

DISCIPLINE, when dealing with an uncertain market like this one, we have to basically raise our discipline level to the highest level.    This means only chasing after the kind of setup that we are most certain, and most comfortable with and be very very picky.    Another aspect of it is setting a rigorous stop for all of our plays and executing it promptly when called for.

HEDGING, as most of you know, we do not hedge against the market.    It's just an idea that's sound in theory but difficult to practice.    To us, going mostly cash when things go awefully wrong is a better strategy.    Unless you have few hundred positions and mutlti multi million dollars of position at risk, there's really no need to hedge.    If you really want to stay neutral, go cash.   If you want to play, use less exposure.

We believe even in a tough environment like we are having now, there's still opportunites to trade.    The opportunities may be few and rare but this is going to be more of a stock picker's market and more of a trader's market.     Everybody makes money in the bull market, but only a few good traders do well in this kind of environment.    To us, we are taking this challenging opportunity to improve our game as well.   Remember, we only learn through mistakes and from tough market.   We firmly believe that the more tough market we go through, the better traders we become when a good market rolls around.