Serial Top Callers Rack Up More Losses

Bear Trap

The market's steady rise continued on Wednesday with the Roundhill Magnificent Seven ETF (MAGS) gaining 2.5% and leading the parade.

After 11 straight days of gains for the Nasdaq, it is obvious that it is overbought, but I can remember a few times when so many people believed the market was wrong and that overbought conditions were sufficient justification for aggressive shorting.

Overbought Does Not Mean Imminent Crash

There is an old market saying that overbought conditions can become even more overbought, but more importantly, they can be remedied in a variety of ways. Mild pullbacks, churning and rotational action are typical responses as things become overheated.

The most important thing to consider is that overbought markets almost never produce a sudden crash. If you study market crashes, you will see that they don't occur at highs. They occur only after a period of weakness. Markets that are overbought and close to highs do not suddenly reverse and go straight down. If you are betting on that action, you are likely to be disappointed.

That doesn't mean you throw caution to the wind. There is good reason to be cautious when stocks are overbought, as better entry points are likely to emerge as consolidation takes hold. Don't make the mistake of thinking that just because an index is overbought, you need to rush to sell stocks or short indices

The Dip Buyer Problem

After 11 straight days with many folks sitting on the sidelines with idle cash, what do you think will happen if we get a pullback? What is the most likely behavior of the folks who are concerned about chasing the market? They are going to jump in quickly on dips and pullbacks. That is why strong markets stay sticky to the upside.

My Best Advice

Don't get caught up in timing a short at the exact market top. That is a gambling mentality and not a strategic trading mindset. What we know is that a new trend is developing. It may have gone too far too fast and needs some digestion, but that isn't a reason for bearishness. What you should be thinking about is what you are going to do if the trend continues, as the overbought conditions are dealt with by choppy market action.

I reduced a couple of positions on Wednesday, but my game plan is to let my winners ride and look for additional entries as overbought conditions subside. That isn't going to happen overnight, and if the market keeps running higher, I'm not going to complain.

Have a good evening. I'll see you tomorrow.

At the time of publication, DePorre had no positions in any securities mentioned.