A Little “Perversion” Trade

Have you ever been frustrated by a stock? Of course you have.

I like to keep a separate paper file of stocks that just blow people’s minds and expectations and generally defy all common expectations (from a technical analysis standpoint).

Not only is it a fun activity to me, but it helps me relieve stress when trades that I feel should work out, do not work out. These trades or positions trap so many people… and that is exactly why they work.

Here is a quick example of a “Perversion Reversion” over a longer time frame (disclosure – I had no position in this stock at any time):

Essentially, what I’ve done is enter the mind of a retail trader convinced that the price will plummet after the large, sudden decline at the beginning of March. Maybe the reason was fundamental, or earnings based, but either way, our hapless trader decided this stock was going to collapse because of all the bad news and so he (or she) loaded up short.

Price climbed and reversed higher, but the first test was the converging moving averages. “Of course, this stock will fall. It’s actually best to enter positions after a pullback – here’s my chance!!”

So instead of taking a stop, the trader loads up MORE shares short because this is – after all – truly a proper “Impulse Sell” trade that I discuss. I do, however, advocate usage of stops.

The trader receives temporary satisfaction as price does decline… but rises again. And then when price broke the 200 period moving average, it did so with a strong momentum impulse and new price and new momentum highs, along with a momentum (continuation) gap. Our trader should have covered.

“Gaps always get filled, so there’s no point at covering at these higher prices… I’ll wait.”

Of course, price does pull-back just a bit, but before long, it’s off to the races. A new and confirmed (short-term) uptrend has developed, and shorts have lost the advantage (or edge).

Still, our trader – convinced from a story he heard on TV or read on a website – holds on to his shorts (short position, that is). He was extremely happy when price ‘plummeted’ at the beginning of June, but other clearer-headed traders saw this as a natural pullback and took advantage of the lower prices and technical support to enter (or add to) positions. Needless to say, price rose quite strongly following a successful test of the 50 day moving average. Our trader was still short.

So now the trader sees a “Bollinger Band fade” trade and remains short. “Price has to fall – there’s a 90% chance, now!”

What is he not seeing?

• A confirmed uptrend
• New momentum highs
• New price highs
• Confirmation of new highs through volume
• Any other bit of information that contradicts his initial reasons for entry

Poor trader… literally POOR trader. It’s good to have opinions and it’s good to act on them, but always be open to new information and set stops when you enter and honor them. Never ‘fall in love’ with a fact or a reason, statement, opinion, or position. The only truth is the market.

You trade differently than this trader… don’t you?