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Minyan Mailbag: Chasing the Bounce?

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Not the time to add new positions, but to take advantage of widespread optimism.

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Professor Sadana,

In An Overbought Bear Market, you
discussed a bounce "coming off the first retracement level, which is a sign of incredible strength." This bounce is a news-related, government-intervention bounce that really has nothing to do with "normal" conditions.

Does this "outlier" bounce deserve the same weight a more normal bounce at this point would get?

-Minyan Michael



Dear Minyan Michael,

Since 2008, we've seen many "outlier events," which led to significant downside as well as upside. We've witnessed extreme volatility and the best 1-day up-moves in the market. We've seen historical norms bent by many indicators (S&P 500 Oscillator reached -20 in October, and -5 is usually "oversold"). And as you know, the pace and ferocity of market action has broken all past precedents, prompting our government to take unprecedented action.

This outlier bounce, of course, deserves attention, since most of the bounces have been very anemic for the entire course of the second-most significant decline historically. But the question I'm asking myself is whether or not now is the best time to chase this bounce by adding to new positions, given the smattering of very short-term overbought readings.

I'm certainly not looking to short this strength. I'm simply making the most of the buying euphoria and keeping the time horizon on my long positions really short, respecting the fact that the bounce can always last longer, just as the decline did - beyond disbelief.

I still expect the month to close positive. But then it gets complicated, since April will bring earnings season. And going into earnings with such price action and high hopes might not always be a good idea.

Having said that, it feels too optimistic out there for the bottom

Historically, the only low that led to vertical move up -- and later launched a bull market -- was the decline of 89% in the Dow. And yes, that was in 1932.

Yours,

Professor Smita Sadana

No positions in stocks mentioned.

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