One of the most consistent patterns in this market over the past three years has been the low-volume, V-shaped bounced. Typically, when we have an ugly day like we did Tuesday, it's followed by a light-volume oversold bounce like today. The conventional wisdom is that this sort of bounce will soon fail and we will eventually retest the recent lows.
That is the theory. In practice, the market has had a strong tendency to keep running up, even though volume is declining. This squeezes the bears and frustrates the underinvested bulls, which is probably part of the reason that the moves tend to continue.
The action today was typical of a dead cat, oversold bounce. Volume was extremely light but breadth was good and slowly trended up most of the day. The major catalyst was chatter about further quantitative easing, but the market probably would have found an excuse no matter what.
Technically, there isn't any reason to trust a bounce like this to last, especially since volume indicates a lack of any real buying conviction. That is the sort of thinking that has caused a lot of trouble for a lot folks. Not only does action like this tend to continue, but it isn't unusual that volume will continue to decline as we run up.
I suspect algorithmic trading that seeks to exploit conventional behavior drives this peculiar action. Instead of fading a low-volume bounce, the computer jockeys keep buying and catch a many traders leaning the wrong way.
Every time I think we can't possible have another one of these V-shaped recoveries, it happens again. So it is going to be very interesting to see what happens this time. All the bearish arguments are still out there, and the technical pattern of this market suggests that we roll over again, but that is exactly the situation that has consistently led to new highs.
I'm not advocating a wildly bullish stance here, but it is very important to be aware of the tendencies that have been in place for a while. Be very careful trying to short low-volume bounces. My inclination is to wait for weakness before trying, and stick with long trades as long as possible.
We'll see how this develops, but don't be too surprised if this market keeps running back up on very light volume.
Have a good evening. I'll see you tomorrow.
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