Market psychology cool despite summer rally

Look for pessimism to return by late August. September is shaping up to be a tough month.

By Jamie Dlugosch Jul 28, 2010 3:50PM

I interrupt this summer rally with an important message to all investors: Market psychology has not changed despite heady gains in stocks.

 

A market that was grossly oversold has recovered nicely in July. The spark for the rally has been second-quarter earnings that have not disappointed investors and reinforced the idea that the market is cheap, at least in the short term.

 

Once the euphoria of positive earnings ends in late August, pessimism is likely to return. September is shaping up to be quite the vacuum in terms of news impacting stock valuations.


Filling the vacuum will be the talk of double dip recession, massive debts and global financial chaos.

If you want to beat the market on a consistent basis I strongly urge using psychology to help you manage your portfolio.

 

By understanding how people are likely to behave when faced with certain scenarios investors can increase the likelihood that your portfolio will be a winner instead of a loser.

 

Because the market is made up of mostly followers instead of leaders general directional trends in prices can be regularly predicted by knowing where the followers are going.

 

A market of leaders usually results in chaos thus making predicting results difficult if not impossible.

 

With respect to the forthcoming end of earnings season I find many similarities to faith and religion.

 

Those lacking faith tend to want to see miracles or some other proof of a superior beings existence. Even when proof is presented, the doubt surfaces quickly after the event.

 

There is an insatiable demand for more and more proof.

 

That is how the majority of followers are behaving in the market today. You can take it to the bank.

 

We are getting our own little miracle in the form of very strong corporate earnings in the second quarter. As soon as we clear the time when reports are released doubt will take its place.

 

The bottom line is that September will be a tough month for stocks. Act accordingly by hedging your portfolio with options or take advantage of selling by owning inverse exchange traded funds that appreciate in value when stocks go down.

 

My top stocks portfolio is up nearly 15% year to date by deftly utilizing market psychology to guide my exposure to stocks. With this latest prediction, I’ll keep 25% of the portfolio balanced with long/short trades.

 

By mid-August I will reduce stock exposure from 75% to 50% and allocate the 25% to inverse exchange-traded funds. I’ll let you know the names in a couple weeks.

 

 

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