Over the course of years, most traders develop a personal trading style. Since the market tends to uptrend far much often than it downtrends, most trading styles are tailored to work best in a bull market. The best traders know when the market favors their style and they act much more aggressively when that is the case. Most traders make 80% of their profits in 20% of the time so it is very helpful to know when you are spinning your wheels.
In a bear market, like we have now, a trader may go for a very long period of time without finding many trades that will work for them. That is the nature of the beast and the smart thing is to just be patient and wait for conditions to change. It is typically not a good idea to reinvent yourself as a trader whenever there is a change in market conditions but it is important to adapt and develop some new strategies.
I've often found bear markets to be a good time to take a break. Don't worry too much about finding trades and wait for conditions to change. It is a good opportunity to catch up on other businesses and to regroup for when the inevitable bull market that will eventually follow.
If you want to stay busy and make some money then you need to adapt to the action. Here are some key concepts to keep in mind.
- There will always be some themes that are working. In the current market, there are stocks related to treatments and supplies for Covid-19, and there are other stocks that benefit from home delivery, home working and other shifts in daily routines. These stocks can be traded like a normal bull market but they are subject to a higher level of volatility and more prone to big moves on news flow. The number of stocks is relatively small so there is more focus on them and that also leads to more volatility.
- The obvious approach to a bear market is shorting. Many market players do not like to short because stocks go down in a much different manner than they go up. It is not just the inverse of trading long. Downside action tends to be much more abrupt and it requires a quicker and more anticipatory approach to do it well. Short squeezes in bull markets can be extremely powerful and if you are caught leaning the wrong way the losses can come fast. Effective shorting can make big money very fast but it is a different skill set than going long in a bull market
- Action in a bear market tends to be very correlated and there is not much advantage to individual stock picking until volatility slows down. For example, I discussed bank stocks this past week. Virtually all the charts are essentially the same right now and there isn't much benefit to trying to sort them out. If you want to trade it is often better to focus on sectors, ETFs, and indices as there is no real benefit to be gained from trying to pick an individual stock if you are looking for short term trades. If you are trading indices the time frames tend to be very short and it requires much more focus. It is difficult to do if you don't have the ability to watch the intraday movement.
- The best trading in a poor market tends to be when counter-trend bounces occur. Those bounces are often quite big and if they are timed correctly, there is a great opportunity. However, the key is time frame. The easiest mistake to make is to overstay a trade and let it turn into an investment. The easiest mistake to make in bear markets is to not manage a trade tightly and then feel stuck when you don't exit in a timely manner. Stay very aware of this tendency and take gains when you can rather than pursue them too aggressively.
- The primary task for traders in a bull market is to develop a shopping list so that they can move quickly and decisively when the market finally starts to uptrend again. It is often helpful to take small 'tracker' positions to keep you engaged and to ensure that you are focused on the price action. I currently have about 20-25 tracker positions, most of them of nominal size. These will be the stocks that I ramp up quickly when conditions change.
- Fear of Missing Out which is commonly referred to as FOMO will always be nagging at us as we navigate a bear market. Everyone wants to be the genius that jumps in and is fully invested at the exact low. It sounds like a noble and profitable goal but it usually leads to frustration and losses. There simply is no way to it with precision. My plan is to be holding high levels of cash at the low. The less I'm holding the better. That means I will make less money with the initial bounce occurs but, hopefully, I will have lost very little and will be far ahead of the serial bottom callers.
- Bear markets offer great opportunity but too many people squander their advantage by focusing on 'value' rather than price action. There is no way to value a stock in an environment when we have no idea how long the economy will be shut down. We know most stocks will eventually recover but we don't know which ones will be the leaders until they start to lead. Focus on price action rather than value if you want to navigate effectively.
- No matter what your trading style might be, it is paramount that you maintain a positive mental attitude. If you are not confident that you can make money then it is very likely that you won't.
The great thing about the market is that there will be opportunities out there no matter what happens. We simply have to cultivate the right mindset and style in order to see that. Hope for the best but always be prepared for the worst.