Waiting, Swing Trading and Why We Only Buy Strong Stocks
I’m not one to attribute the market’s movement to any one event generally speaking. But few should be surprised to have seen the market sell-off accelerate the more it became clear that Congress would not soon reach a resolution on a bailout for the domestic auto industry.
The Dow was off more than 440 points. The S&P 500 was down more than 6.5%.
I have regularly pointed out that momentum, strong-get-stronger markets rarely provide the sort of pullback opportunities that are most effective for swing traders. And while our Short Term PowerRatings help swing traders spot opportunities in weak markets as well as strong markets, our proprietary rating system requires strong stocks and the market has allowed precious few stocks to remain this way.
What do we mean by strong stocks? Our research into short term stock price behavior since 1995 indicates that stocks that are trading above their 200-day moving averages are more likely to respond positively to short-term pullbacks than stocks that are trading below their 200-day moving averages.
As shorthand, then, we consider stocks closing above their 200-day moving average to be strong stocks worth of short term trades to the long side. Stocks trading below their 200-day moving averages are considered “weak.” These stocks are not only stocks that traders looking to buy should avoid in the short term. They are also, when they become overbought and their Short Term PowerRatings become low, the stocks that make the best short selling candidates.
The relentless selling has created fewer and fewer strong stocks, by this definition, and fewer opportunities for swing traders. And as we have urged swing traders who subscribe to our trading advisory service — just as I have suggested here from time to time — when our discipline says there are fewer opportunities, then we know that there are fewer reasonable trades. And insofar as we are traders, not gamblers, we are content to wait on the sidelines until the sort of opportunities with historical edges in our favor reappear.