In early February, I noted to my readers that the S&P 500 just experienced “four straight days of ‘rip your face off’ rallies” – a move of at least 1% higher each day.
This, of course, was happening as the coronavirus pandemic was raging in China, and was just starting to appear in the U.S. I wrote at the time:
Stocks seem to be moving higher just about every day. Investors, ignoring overbought conditions and multiple warning signs, are chasing stocks higher. They’re more afraid of missing out on gains than of suffering through a decline. And, the financial television talking heads are bathing in smugness, once again.
So, I figured it was time to take a contrarian stance. At that time, traders were not rushing to sell out of long positions, or to add exposure to the short side. So, the way I decided to do it was to short the tech sector using the Invesco QQQ Trust (QQQ) – an exchange-traded fund that tracks a basket of tech stocks.
Why tech stocks? Because tech stocks tend to lead the market higher in the good times… and lower in the bad times. If we wanted to benefit on a broad market decline, betting against the tech sector was a good way to amplify our returns.
It wasn’t a popular trade. It challenged the prevailing notion at the time that the pandemic wouldn’t reach American soil… which is hard to imagine now.
So, as time went on, it became clear we were right. The U.S. was not impervious to the pandemic threat. And, by February 26, the S&P 500 fell more than 100 points – giving up all of its gains for February, and for the year.
After that, we took advantage of the volatility and closed our recommended trade less than three weeks later, with a gain of 111%.
Take a look…
Now, how did we conclude that tech stocks would fall as the broad market was racing higher?
It’s all thanks to what’s probably the most important mantra of my trading technique: Periods of low volatility are always followed by periods of high volatility, and vice versa.
When things are complacent in the markets, you can almost always count on that to change, in either direction – and rapidly.
Another key to taking advantage of volatility is making sure we’re not making brash decisions by playing on emotions, or trading in overbought and overextended conditions. It doesn’t end well. I’ve said before that the stock market is a “cruel mistress” – she will have her way with you if you don’t keep your emotions in check.
And, if we’re jumping over to the bullish side of the cruise ship in a frenzy, the boat will inevitably tip over. Logic is important, despite the sometimes enormous pressure to think otherwise.
Best regards and good trading,
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Jeff Clark
Editor, Market Minute
P.S. When you trade like I do, there are always opportunities to book massive profits – both from the upside and downside.
So, on August 26, at 8 p.m. ET, I’m going live with my son Carson in an attempt to double his money with my trading technique… and you’ll get to watch every moment of our training session, from start to finish, right here.
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