Should High Probability Traders Short This Market?
Just yesterday I got an e-mail from a member of Larry Connors’ Daily Battle Plan. His question was one that I suspect is on the minds of many traders – both those who follow the high probability ETF trading strategies in the Battle Plan (84% correct over the past year) – as well as those who do not.
“With the market so high, overextended and overbought, why not sell it short?”
As high probability ETF traders, our strategy indeed is to sell short overbought markets and to buy pullbacks in oversold markets. This “buy the selling, sell the buying” approach – as Larry Connors puts it – is at the foundation of our ETF trading strategy. And it is at the core of our ETF trading strategy because our quantified testing of hundreds of exchange-traded funds (ETFs) in thousands of simulated trades revealed that there are significant edges to be found when selling short overbought ETF markets and buying oversold ETF markets. The question is when and in what context.
Here, our research was no less clear. When it comes to buying oversold ETFs, our trading strategy demands that those ETFs trade above their 200-day moving averages. And when it comes to selling short overbought ETFs, our trading strategy is the opposite: we only look to sell short overbought ETFs trading below their 200-day moving averages.
At its most simple, this approach means that we are always trading in the direction of the trend. We use the 200-day moving average – another indicator that has stood the test of backtesting – as our line in the sand to separate those ETFs that are in relatively strong shape and in uptrends (the ETFs to be bought on pullback) from those ETFs that are in relatively weak shape in and in downtrends (the ETFs to be sold short on bounces).
Although this can be exasperating for short term traders who are accustomed to greater trading frequency, we take the “high probability” part of our moniker as â€œhigh probability ETF tradersâ€ seriously. We would much rather sit on the sidelines and wait patiently for markets running away to the upside to pull back (or for markets running away to the downside to bounce). The alternative is chasing markets higher and lower – an often expensive game we would rather not play.
As Larry says, no matter how strong the trend, markets eventually pull back. And when they do, it is the task of the high probability trader to be ready to take advantage of those pullbacks in uptrends and bounces in downtrends with a quantified, disciplined trading strategy based more on probability than emotion.
For incisive market analysis and high probability ETF trading set-ups, click here to launch your free, 7-day trial to Larry Connors’ Daily Battle Plan. 42-8 or 84% correct since October 2008.
David Penn is Editor in Chief at TradingMarkets.com.