Wednesday, August 8, 2007
Overreactions
by David Yu
Some of you had emailed me about market manipulations and other conspiracy theories. I heard what you're saying. I know you're concerned about the economy, but we, as small short-term traders and long-term investors, must transcend our own sentiments and beliefs. We have to trade with the trend in order to minimize losses and maximize profits.
In Last Wednesday's market update, I mentioned subtle changes in market breadth that had indicated a short-term oversold condition. I also referred to a higher probability for the market to go up than down. When the selling's overdone, the market tends to revert back to somewhere near the mean sooner or later. And, that's exactly what's happening now; the market's going through the process of reversion to the mean. Nonetheless, the ferocity of the rally did surprise me. The run-up had gone almost vertical. It reminds me of a starving person who's devouring everything in sight.
These 3 days of ferocious yet peculiar display of investors' appetite made me question whether the market had finally worked off the excess of the previous oversold condition. And, predicating on the intraday dynamics of these 3 important trending indicators (Chart 1), this short-term rally thus far appears to have not only worked off the excess, but it has also gone way over to the overbought end of the spectrum. The 5-day moving average (red curve) has gone off the chart just like it did at the end of February when the market overreacted to the overnight selloff in China.
Chart 1
And, that overreaction at the end of February was corrected almost just as quickly. We can see the red curve came back into view again in the beginning of March. That signals that a new trend to move the price back to the mean (30 to -40 area) is about to take place. This time, we too will know if a new trend to the downside is about to begin when the 5-day moving average becomes visible again. I'm expecting that to happen sooner rather than later.
Finally, mark your calendar for tomorrow's deadline for large corporations to file their 10-Q with the SEC. According to Michael Santoli of Barron's:
"If any financial company audit committees are puzzling over how to price various forms of credit exotica, they should come to light by that date."
And that's all the time I have for this weekday update. This market volatility doesn't happen everyday. I'm taking advantages of as many trading opportunities as possible. I'll try to do more on this site when things quiet down. For now, unless something really important happens, I'll see all of you on Sunday.
email: david_3011 @ yahoo.com
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