4 Questions to Ask Yourself During a Market Correction

Here Are Some Questions To Ask Yourself

While it is nice to see one’s well crafted forecast start to play out, it is rare to see prices just move in a straight line. That means you will inevitably have to sit through a correction. Let’s face it, corrections can make you uncomfortable. Do the bullet points below sound familiar?

  • Is my thesis/rationale still valid?
  • I hate giving back profits

This is where objective questions come into play.

  • What was my objective on this trade and has it been met?

If you are trading with a slightly longer-term view:

  • Has anything from a technical or fundamental standpoint changed that would suggest price action will reverse?
  • Should I add to my position on this pull-back?
  • What does a higher interest rate environment mean for the Dollar Index (DXC)?

Markets Are Not Linear

Aspen clients are now at this juncture, how to handle the current correction both in the Dollar Index (DXC) and the S&P’s.

I have been looking for a push lower in the Dollar Index (DXC) for a few weeks now, and the week of March 5th I advised clients as follows:

  • Longs in EUR/USD and NZD/USD
  • Shorts in USD/SGD

My overall thesis was that DXC was looking a bit ragged and due for a push lower.

Thus moves higher in EUR/USD and lower in USD/SGD were worth considering.

I thought the daily chart of NZD/USD was particularly compelling.

These are trades that were taken.

DXC has moved nicely lower but is now approaching key support at 99. It seems unlikely that prices will just slice right through that level given how far DXC has fallen already, so trader’s should prepare at minimum for a sideways consolidation or correction higher.

This is where it gets tricky. A decent amount of unrealized gains – what are we/you going to do about it?

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Buy The Dips

Ahh, yes, the rallying call of the 30-something crowd. While they have been right for many years now, it is not a strategy that will work in the long run. Picking up nickels in front of a steam roller usually ends badly.

The S&P’s (and the Russell 2000/IWM) too are in a correction presently – or is it something more sinister?

That is a tough call. When was the last time a dip was nothing more than a buying opportunity?

Exactly – it has been a very long-time since a meaningful move lower has developed.

Regardless, we are short IWM (ETF for Russell 2000) via a Put Spread since March 10th. So far it has worked out well but I am getting a anxious.

Using the S&P’s as the overall barometer for managing the trade it would appear that minimum downside target(s) are now within reach. For now I am looking at this move as a correction and thus peeling of pieces of the trade. Maybe it will develop into something more bearish, but calling tops (or bottoms) is a fools game. Rather, consider that this move lower could start to stall out at 2307-2320

But not so fast. Tuesday’s decline of 1.24% was the first 1%+ decline in 109 days. This was accompanied by a big uptick in the VIX/VXX.

According to Nautilus Research:

Based on that uptick in volatility, the significant price reversals, and the factors highlighted in last week’s strategy update we suspect a corrective phase is now underway.   We say “suspect” as we are not without doubts.   The other times the market had similarly long stretches without a 1% decline generally rebounded to new highs right away as shown below.  But we are more concerned by the many other risk factors highlighted in recent notes than just low volatility.  For example, the deterioration in High Beta from the recent collapse in reflation themes has been a constant refrain and note in the 2nd chart below that the Dow Transports just triggered a major “divergent” sell signal for the market overall.  Also consider just how extreme low volatility had become.  The annualized realized volatility of the S&P 500 based on its last 50 trading days fell to 5.81% on 2/28/17, a level only surpassed 4 times (1952, 1964, 1967, 1995) in over 100 years and generally associated with below average longer-term returns.

So now what? Trade management. The options trades I have on expire in April so I think I will simply hang tight for the time being and see how much more downside there is here.

Here is to solid trading,

Dave

 

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