Friday, October 7, 2011

Why Shorting In This Environment Can Be Dangerous

One of the most important and largely ignored aspects of market analysis is putting the pattern or indicator readings you are examining into proper context. Is the market in an uptrend? A downtrend? At new highs? At new lows? It can make a big difference in how the market will react to setups.

Currently the SPX is bouncing strongly off of an intermediate-term bottom. Initial thrusts from bottoms are often much riskier to short than similar thrusts in downtrends that don’t originate off a bottom. I’ve shown many examples of this in the Quantifiable Edges Subscriber Letter. Below is an example that simply looks at 3-day rallies in downtrends. The 1st set of results looks at times where the rally originated from somewhere other than a 50-day low. The 2nd set require a 50-day low.

Here’s the 1st set:

Results here appear solidly bearish.

Now let’s look a times like the present where the market is emerging from an intermediate-term low.

These results appear to be a polar opposite of the previous set. It has been quite a hot streak since 2001 with these setups. Prior to that no edge was evident in either direction, but it still wasn’t bearish like the 1st setup.

Always keep context in mind, and don’t get too aggressive shorting thrusts off bottoms.


Johan Lindén said...


great weekend!

Dave Squires said...

Is a thrust off a bottom the same as a retest?

Rob Hanna said...


No. For this test I only require that the SPX closed at a 50-day low on the day prior to the 3-day rally. The fact that SPX "retested" its August lows has no bearing on this study.