Here’s A Way To Better Time The Market, Part III

Email Deluge!

I received
hundreds upon hundreds of emails over the past few weeks about my
column “New Research On Breakouts, Parts I and II.”

If you have not
heard back from me yet, you will. Obviously, the research struck a
chord with many of you and I want to make sure all of your questions
are answered. If you missed either of the columns, you can find them

Part 1

Part II

Successful Traders/Active Investors
Don’t Guess!

Over the years,
we have quantified a number of ways that have shown the likelihood of
prices rising or declining over the next 1-5 days. The past two weeks’
columns were a small example of how you can help get a better edge on
the market over the majority of people who like to use their “gut” and
“guess” where prices are going.

Hell, anyone can
guess and lose money. Look at all the smart people (especially the
professionals) who bought at the open on Monday (and nailed the day’s
high!) because of the capture of Saddam Hussein. They “logically”
assumed (they guessed) that his capture would lead to profits. And
they were partially right! It did lead to
It led to profits for the specialists and market
makers who marked prices up on the opening and gladly sold stock to
these people at levels that were unsustainable for the day. These
people used their gut and they guessed wrong. It happens all the time.
Day after day, month after month, year after year.

So, let’s
continue with the knowledge we gained over the past few weeks and now
let’s look at another way of buying pullbacks. Last week, we saw that
buying pulllbacks has been a superior strategy to buying breakouts
over the past decade. This week, let’s look at how buying pullbacks is
superior to “guessing” which direction the market is going for the
upcoming day.

The Test

Let’s assume the
trend for the market is up, as defined by price of the S&P 500
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closing above its 200-day moving average. What percentage of the time
since 1989 did the market rise the next day when this occurred?

A) 52%

B) 52%

C) 52%

D) 52%

Very good! Yes,
in spite of the fact that prices have risen significantly since 1989
(with a much higher bias), there was little edge in “guessing” either
up or down for the upcoming day.

Now, let’s get smart and be a bit selective
Let’s say we waited for the market to drop, three days in
a row. What percentage of the time did prices rise the next day?

A) 0%

B) 52%

C) The combined IQ of Major League Baseball’s Players Union

D) 62.3%

Well, this is
partially a trick question because answers A and C are the same. The
correct answer is D) 62.3% of the time (and, if you held the position
five days, it jumped up to over 66% of the time). That’s right, if one
were to have simply waited until the market went down three days in a
row while in an uptrend, and bought the market (you can use the
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on the close of the third down day, one would have made money 62% of
the time the next day, and nearly two-thirds of the time a week later.
This is versus using simply “guessing” as the entry, which has been
shown to have little to no edge at all, in spite of the fact that the
Dow has moved up from well under 3000 to over 10,000 during this
period of time.

Here’s a recent
example of what this looks like:


Trade With Edges!

What does this
tell us?

1. It confirms
even further that buying on pullbacks is a strong place to start when
making your investment decisions.

2. That on a
day-to-day basis, unless the market has pulled back, these guys on TV
and in print are usually just guessing what the market will do for the
day. And worse, many of them were buying at the highs Monday morning
with your retirement and investment money!

3. Not only has
there been an edge in buying three-day pullbacks for the upcoming day,
but the edge was even greater when looking at prices a week later.

4.. At least
over the past 15 years, waiting for the market to drop three days in a
row while prices are above the 200-day ma, has been an opportune time
to be entering the market. As I stated

last week
, there are no guarantees this will continue in the
future and this should not be traded as a system. Stops must strongly
be considered in order to protect yourself from potential drawdowns.
But, at least looking back, it’s been shown to have a significant edge
as opposed to just randomly entering market any given day.


Guessing does
not work…there is no edge. Blindly buying breakouts does not work
either (even though we have never been able to quantify it, I do feel
that applying the proper filters and screening techniques as taught
and used by some of the better momentum managers does have an edge).
Waiting for uptrending markets to touch
10-day lows (as shown over the past few weeks) or waiting for the
market to sell-off three days in a row, has shown a strong historical
It still fits into the simplest investment theme in
the world that has stood the test of time…buy low (no matter what
the time frame!) and sell high.

Have a great
week trading, feel free to email me any questions you may have (and
Happy Holidays)!

Larry Connors

PS – Dave Landry just published a
new book on Swing Trading and Pullback Trading (“Dave Landry’s 10
Best Swing Trading Strategies
“) which discusses

many of the themes we’ve looked at over the past three weeks. If you’d
like more details on it, you can find it at