Traders and investors more than ever, are becoming paranoid of this market rally and when the house of cards finally comes crashing down.
But let’s take a look at what exactly this emotion is all about and how it affects us as traders.
Webster’s dictionary says that paranoia is: a tendency on the part of an individual or group toward excessive or irrational suspiciousness and distrustfulness of others.
Now apply that to the stock market and you have: a tendency on the part of an individual toward excessive or irrational suspiciousness and distrustfulness of the stock market.
In essence it is seeing the the market doing one thing, and believing, without any real reason, it is actually going to do something else.
Now in practical terms: it is looking at the stock market going up day after day and being so distrustful of it or suspicious of it, that you start shorting the market, thinking it has to have a correction, or start selling all of your positions because you are afraid of a crash being right around the corner.
For me, the fear and greed emotion set isn’t what I have to be most concerned with. Instead it is paranoia. Sure, paranoia is a subset of fear, but it is very unique in that it tends to wrap itself around a trader when the market is at its best.
Fear as it relates to the stock market, takes hold when paranoia isn’t the issue. It happens when the market is, in fact, crashing. People start selling because the market is selling off, and thereby creating a ‘snowball’ effect, causing the market to fall further than imagined.
With the market making new all-time highs on a regular basis, and every dip getting instantly bought up, any rationale person has that feeling of it all being just “too good to be true”. Once that happens, the paranoia starts to set in. Profits are booked just “because”, and short positions are established against a well established market trend.
That’s a bad idea!
Where I get myself into trouble from time to time, are the intraday dips, that break through key support levels. I don’t get overly enthusiastic about it, but on days where I see price action bust through multiple days of price action, and all the short-term moving averages, I’ll start putting some starter short positions out there, only to have the market rally against them before the close of the day.
Yes, there is some paranoia that sets in as price action deteriorates. But I also know, that it is better to test the waters with one foot rather than both. The latter will send you straight to the bottom!
Knowing this, I am able to keep my emotions under control, and not let the paranoia become a deciding factor in my trading success.
We are human, so it isn’t going to be to always be perfect with our emotions as it pertains to the stock market, but I do think these five simple strategies will help you out quite a bit, as it has me.
#1: Use moving averages as a guide
I am a nimble trader. I like to trade with the ebbs and flows of the market. Moving averages are great at putting price action in perspective.
Listen, there is no reason to get freaked out by the market, if the S&P 500 is still trading above its 5-day moving average. When the price action is still above the average closing price of the last five trading sessions, then there is very little to be worried by as it pertains to the stock market.
If the stock market is still trading above the 20 or 50-day moving average, it is very difficult to consider anything remotely similar to a traditional market crash, just yet.
And you can’t consider anything a generational low, if the stock market is still holding on to the 200-day moving average.
In essence, use moving averages to put any sell-off and any uncertainty into perspective. Has the market traded sideways for a couple of weeks? Okay, that doesn’t mean death and destruction is upon your and your portfolio.
Again, it’s about having some perspective on price action as it relates to the moving averages and the overall stock market.
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#2: Stepping away when the emotions become too much
When you get to that point where, you just don’t know what to do, when price action is difficult to interpret, that is where you need to step back, take a 15 minute break and allow the emotions to wind down.
For me, when this becomes an issue, I go for a quick 15 minute walk. In doing so, I am able to clear my head without having to be impacted by ongoing price action.
It is during these walks that I am able to determine the best path forward and how to handle the pressure that is associated with the current market.
When you are looking at real-time price action, it can be easy for your opinion on what to do with your trades and portfolio to waver minute by minute, or even second by second.
When it gets to that point, you are talking about a ‘crap-shot’. Instead of making a decision you’ll find yourself instantly regretting, take a step away from the market, go for a walk, like I do, and clear your head of the stresses the market is giving you. Not too long into my walk, the answer will often present itself to me and usually it comes in the form of an option I hadn’t even previous considered until I took that walk.
#3: Manage market exposure as it pertains to uncertainty
If you are feeling a sense of paranoia, then consider cutting back on the amount of long exposure in your portfolio.
Think about it…
If you are 150% long, you are going to be stressed about the potential for a market reversal, and even the smallest of sell-offs will increase the possibility of a panic decision and that is no good!
If you are 40% long, your emotions will be much easier to manage (vs being 150% long) because you will have a better sense of control of your portfolio, and should there be a sudden and swift sell off you won’t be faced with a nasty hit to your portfolio’s value.
That doesn’t mean you should trade a minimal amount all the time, simply for the sake of making it easier on the emotions, but when the charts provide you with a strong level of confidence about the market, that isn’t likely to generate strong feelings of paranoia, then it is a good opportunity to add more exposure to the portfolio – maybe you decide to get 70-80% long.
But when you are seeing price action behave in ways that is synonymous with a potential sell off, make it easy on yourself, and scale back on your long exposure, so that if a sell-off does come to fruition, you can quickly get out of your long positions, if necessary, and flip to the short side fairly quickly.
RELATED:Always Assume You Will Lose On Your Trades
#4: Use closing price for determining future decisions
This is one that I need to do a much better job of. Particularly with the dip buying mentality of this market. I have seen a few huge intraday sell-offs, that when you are looking at the charts suggests that the dam is about to be breached. I start adding one or two short positions, not a ton, but enough to make things interesting, only to see the market rally off the lows and even back into positive territory.
The good thing, is that I don’t overdo it, so that when I get short, I don’t have a ton exposure – it is simply a starting position.
The best way to prevent this from happening is by judging the price action based on closing prices, because often times, what happens intraday, is far different than what the closing price will be.
By basing the decision off of the closing price, I can avoid some of the traps that intraday pricing lays out for the paranoid trader.
I’m not a perfect trader, but I am always striving, inch-by-inch and trade-by-trade, to become more like one. This is definitely one area I need to improve on.
#5: Admit early on when you are wrong
This is what has saved me so many times when it comes to trading!
Knowing when I am wrong and doing something about it!
I’ve developed, over the years, a very good sense of when I am right and when I am completely wrong. Once I know the latter, I have to do something about it. I am not going to hold on to a bad trade, just because.
Traders hold on to bad positions because they want to hope they will be right. I just care about being profitable, and that means being right about when I know I am wrong!
The longer I hold a losing position, the less money there will be for me at the end. Because of that, when it becomes obvious on the charts that I am wrong, I move on to something else. I close out the bad trade and move on to the next opportunity the market is presenting me with.
Take a look at my trade that I took in SPXU – a 3x Bearish ETF on the S&P 500.
I get in the ETF early on, but it becomes clear that I am not on the right side of this trade. Instead of sitting on my hands, and hoping that I’ll be proven right later on, I take action and sell the position and keep my loss to a minimum. In doing so, I don’t allow for the trade to eat away at my existing profits on all my other trades and it allows me to move on to my next trade.
When I have hopped on some shorts early on because the intraday price action is breaking down quickly, I also hop right back out of them for a minimal loss (usually for fractions of a percent) when it becomes obvious the market decides to rally back to the highs of the day, or beyond.
Keeping the emotions separate from our trading is hard to do, if not impossible at times as it pertains to the stock market. Our money, our capital, and our pride is on the line every single day. The one thing that we can do to keep from letting those emotions overtake us, is to recognize they exist, and to actively manage them.
It’s okay to realize that your emotions affect your mind when it comes to trading, but what is not acceptable is when you let those emotions rage on and be the determiner for what you buy and sell.
You can rid yourself of emotions and that includes the paranoia that comes with being a trader in a raging bull market. Yes, the market will eventually fall off a cliff at some point, but letting paranoia become the reason for why you trade against the current market trend is unacceptable.
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