Saturday, November 22, 2008

capitulation is not a bottom

In a declining market, traders often speak of the need to have capitulation, or a selling climax, in order to find a low in the market. I believe selling climaxes or capitulatory moves that end a decline are bull-market phenomena; they are not how a bear market ends.

Panic selling is what occurs when investors get scared out of the market during a bull market. But while we have a tendency to look for such selling in a bear market, it doesn’t occur very often in my view. We tend to get a series of panic-selling lows, but none leads to more than a short-term rally.

In a bear market, the news that comes out is almost always awful and just keeps getting worse. The general feeling is that there is no reason for hope. In other words, there is no panic at the lows—there is simply doom and gloom and disgust with the market.

In a typical bear market, doom and gloom persist. We tend to get a series of panic-selling lows but none leads to more than a short-term rally. Panic selling occurred several times in the 2000–2002 bear market, yet in each instance the market continued lower. The final low of the 2000–2002 bear market was a case of sellers going out with more of a whimper than a bang, which in my view is indicative of the nature of true bottoms.

So when you hear the talking heads call for capitulation this time around, please understand that I think a capitulation low only leads to a short-term rally, not a long-lasting bottom. I believe if we manage to go sideways for many months, or even a year or more, we have a better chance at making a bottom that is long-lasting, since we might have the beginning of some base-building.

0 Comments:

Post a Comment

<< Home