7 Reasons Why I'm Playing for a Bounce

Some of the best trades come when everyone gets very panicky.  The crowd can often act very stupidly in the markets.  You can picture price fluctuations around an equilibrium level as a rubber band being stretched - if it gets pulled too far, eventually it will snap back.  As a short term trader, I try to wait until the rubber band is strechted to its extreme point.

- Linda Bradford Raschke, quoted in The New Market Wizards (1992) by Jack Schwager, pg. 300 

I think that’s enough for now.  I bought (SPY) at the very end of the day yesterday at $116.40 and I added to my Goldman position at $100 midday.  I think a bounce is coming and here are some reasons why:

• The Dow has dropped 812 points (-7.11%) and the S&P 95 points (-7.59%) so far this week. 
• Volume has been really high on the NYSE and in major ETFs like the SPY and (XLF).  In fact, I believe the SPY set an all time record yesterday with 624 million shares trading hands. 
• Both Monday and today (Wednesday) were 90% down days where more than 90% of the volume traded on the NYSE was on a downtick.  These types of days, on the up or downside, are thought to be climactic.  Two this week suggests to me the selling has reached a climax.
• The Fear Index (VIX) spiked to 36 Wednesday and closed there - the highest closing level since 2002.
• The selling in Goldman (GS) and Morgan (MS) has just been insane.  In spite of releasing a pretty solid earnings report before the open Wednesday, Goldman is down 26% on the week.  It was down 14% yesterday on volume of 112 million shares - out of 394 million outstanding.  That is BY FAR the biggest volume day in Goldman’s entire history as a public company dating back to 1999.  Same story at Morgan Stanley which is down 42% on the week and 24% today with 330 million shares trading hands - out of 1,109 million outstanding.  Again that’s BY FAR the highest volume day for Morgan Stanley in the last 10 years.
• In another sign of complete panic, according to the WSJ Markets Data Center the 3-month T-Bill closed Wednesday yielding 0.036% - down from 1.475% at the close on Friday.  That compares with a low of 0.518% on March 20th in the wake of the Bear Stearns (BSC) bail out.  To be clear this means that investors are willing to lend money to the Treasury for 3 months without being paid ANY interest just for the security of knowing that their principal is safe.  It’s a sign of capitulation because it shows that everything else is being sold, nothing is trusted.
• The SEC yesterday outlawed “naked shortselling” on ALL public companies.  If you recall, they did the same thing back on July 15th except it just applied to the largest financial stocks - and it worked as that day marked the bottom for financials.  In other words, the government is sort of making it illegal for stocks to go down.  Socialism anybody?

For all these reasons, I think stocks might have bottomed yesterday, or at least they’re real close, and a bounce should be coming.  I don’t think the bear market is over by any means but for the short term it might take a little break.

Disclosure: Top Gun is long the S&P 500 ETF (SPY) and Goldman Sachs (GS).

Comments

[artnoon:]

I would believe him if he posted the article before the market close yesterday.

2008 Sep 18 07:49 AM

[Schweizer:]

He'll be right for perhaps 1 day. It ain't over by a long shot. Capitulation needs to be followed by MASSIVE upside buying, and by more than shorts who are covering.

2008 Sep 18 07:57 AM

[whisperonth...:]

I look at the Naked Short thing as the kid who tells you he has a watch to sell you but he has to go home to get it. You give him the money, he goes around the corner, beats up someone and steals their watch, then gives it to you. If stock is going to go down, it should go down naturally, not because there are bullies out there.

2008 Sep 18 08:03 AM

[User 259903:]

wow, two positions and some advice in markets that are the equivalent of catching sharp falling knives. this young philosopher neglected to say that there are forced sales underway, margin calls, hedge funds getting decimated, along with fear not seen in the markets since 1987 and 2001. he runs a "hedge fund like..." fund? long gs and spy: keep us posted on your diversification and total returns for 1, 3, 5 and 10 years.

2008 Sep 18 09:30 AM

[TKTK53:]

Stop for a minute and look at the 80's and 90's
What happened - the markets snapped back and all the short sellers that got out lost
So just hang in there and YES it will come back very strong
Now is the time to be buying instead of selling
Remember when YOU said I wish I would have bought that stock when it was so low. Now is your chance to get in at a really low price, and make a good profit.
TKTK53

2008 Sep 18 11:34 AM