Don’t put the Put down
One common problem that novices face is the fear or reservation of buying a Put option in a bearish market.
Its not surprising if you consider how we’ve come to perceive a bearish market. Our Neurons have been programmed to think and react to a bearish market with negative connotations such as; Recession, Downturn, Crash, … all things related to a life of struggle and difficulty; Pay Cuts, Retrenchment, Unemployment, etc.
These negative patterns have been ingrained into our lives since we were old enough to understand it and we’ve been unknowingly carrying it for the longest time. When we become traders, this pattern reveals itself openly in our fear to sell short or buy Puts. We would rather stay in our comfort zone and do nothing till the market reverses into our familiar uptrend.
Silly then, if you realize, that we didn’t take the opportunity to make money in the downtrend. And it is a well known fact that money made in a downtrend, is faster than money made in an uptrend. Also sillier is the fact that there is little to fear should the market reverse into an uptrend, because the uptrend is never as fast to rise compared to the sudden decline of a downtrend. Thus, any bullish reversal will still give you ample time to react and limit the damage unlike a bearish reversal which often kills a bullish position in a hurry.
The fear of shorting or buying a Put is an emotional weakness. So if you fall into this category of traders, it only means that you have not entirely addressed the issue of trading without emotion. You are allowing common believes to affect your good sense of trading, thus preventing you from taking advantage of a highly profitable opportunity.
So what do you have to do to overcome this weakness?
It won’t be easy, but it is simple; forget what you think is normal.
Normally, the bear market is never a good thing. Normal thinking people dread a weak market and/or economy. Normal reactions to a bear market is fear and doubt. The normal after effect is sadness and misery.
Now that you know all that, think of all those factors as indicators to sell short. When there is dread, fear, doubt, sadness and misery in the market, this is never a good thing. Thus, we have all the emotional indicators pointing to an opportunity to buy a Put or sell short! Wait a second … don’t get excited … calm down. There is still a lot of work to do before jumping into your Puts and Shorts.
In any bear market, there must always be at least one all-encompassing reason for downtrend. It could be the 1997 Asian Financial Crisis, the 2000 Recession or Dot.com bubble bursting, the 2005 twin terrors of Katrina or Rita or the current concern with the weak American Housing Sector or Sub-prime lending. Without such a headline, the downtrend could be nothing more than a short term correction. Never-the-less, you need a headline worthy of such a correction too. And the more far reaching the bad news, the longer the effect will last.
Then you jump onto your charts. Using standard indicators and oscillators, confirm that everything is weak, overbought and overvalued. Prices should be trending below the indicators and oscillators are showing negative readings. Volumes should be predominantly Sell biased. Volumes should also be higher than average. Lower highs and lower lows must be more common that higher highs and higher lows.
Then check the market internals with the use of the TRIN and TICK. The TICK should reflect Sellers outpacing Buyers consistently. The TRIN should be showing more Lows than Highs. Remember that between the two, the TRIN is the more reliable read. If you have access to ECN or Level II quotes, confirm a selling sentiment that outpaces the buyers by more than 30%. Then check to see if the Open Interest has been declining steadily.
Then before you click in your entry, think Fibonacci numbers; 2, 3, 5, 8. If the market has tanked for 4 days, expect a bullish stall or reversal for the next 2 or 3 days. If the market tanks a further 7 days, expect an eighth day reversal. A 12 day tank will reverse on the 13th. So never rush your bearish entry on a Fib day to avoid getting caught in bullish correction.
Of course there is more to making money in a bearish market. There are so many more variables to consider but these few techniques I’ve mentioned are the basic level knowledge needed to take on a bearish position.
But the real point of this lessons is; After all this reading, have I distracted you enough to have found yourself not fearing a bearish trade as much now?
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