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Trapping Market

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PostPosted: Sat May 13, 2006 8:10 am    Post subject: Trapping Market Reply with quote

On Fri a week ago, the vast majority of analysis were talking about "breakouts" and "meltups" when SPX closed above 1,315 (see second arrow below). Over the following Mon to Wed, there seemed to be short-covering on the smallest pullbacks. After the FOMC announcement Wed afternoon, more short-covering seemed to take place. However, on Thu and Fri, the market fell sharply almost straight down, which most likely resulted in large losses for many of those bullish on Fri.

In Mar, there was a brutal short-squeeze that lasted a whole week (see first arrow). The increasing volume suggests many covered their short positions near the end of the short-squeeze, which fueled the market higher. SPX generally fell the previous two weeks before the short-squeeze most likely on heavy short-selling (also note the bearish engulfing the day before the short-squeeze began).

These two episodes show the market often does what most don't expect, and does it in a way where the most money can be lost. However, normally, gains can be made trading the intermediate-term trend (i.e. within three months), taking advantage of volatility to lock in some gains or lower average costs. Of course, it's much more difficult to predict, consistently and accurately, the actual SPX price movements, which would result in much larger gains.

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