The Never Ending Rally

In many ways this rally has the same feel as last year's rally at around this time. Despite many indicators flashing that have consistently led to pullbacks, the market continues to drift higher. I have seen a host of studies showing that the current rally is one of the rarest ever in that there are absolutely no pullbacks. I believe these moves that were once rare events are becoming more frequent because quants, hedge funds as a group and day traders all use momentum strategies. The question becomes how does one deal with what seems to be a change in the way market trades.

While I have not altered my longer term value strategy, I have adjusted my trading strategy to allow for these bigger moves. Recognizing the change allowed me to stay invested this year for a lot longer than I did last year even though I still sold too early. I have also avoided going net short this year, which has saved me money.

Recognizing that there has been a change in the way the market trades and making adjustments has helped me. But sticking to my basic trading strategy of buying extreme pessimism and selling extreme optimism has helped me even more. When most were puking up positions this Summer I was able to take advantage. I believe it is a mistake to completely change one's strategy even if this is a new normal. One should make certain that their strategy could withstand these types of moves but constantly changing strategies is a recipe for disaster. One must accept the fact that there is no strategy that will make money all the time.


Bucket_head said...

Excellent points.  I have discovered this as well, in the past I would have been trying to short tops for past few weeks and not feeling so good.  I believe the context in which indicators arise must be taken into consideration.  Given that 4 months ago, funds were raising cash out of equities at highest levels in a decade and in fact leveraged short near the lows, it takes time for funds to regain equity exposure.  Those things tend to have persistent bullish effect after the storm has settled.  If the opposite was true, I would have been aggresively shorting recently while the same short term indicators would be showing similar data now.

Tsachy Mishal said...

Excellent point on remembering that people were preparing for another 2008. I think that has to do with the fact that hedge funds as a group are running a momentum strategy. ie de-risking lower, re-risking higher

Weekend Reading #7 – Finance & Investing Links for 3-03-2012 said...

[...] The Never Ending Rally – Capital Observer [...]