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Market freefall: What moves do I make?

Markets are in freefall here. Perhaps your account is suffering badly. You want to know what to do. Carnivore Trading lives and breathes the market every day, minute by minute, and the Hall of Fame traders there have been here before. Here are some observations:

What The Heck Is Happening?


COVID and its variants did something extraordinary to certain sectors of the market. Tech, for example, exploded to the upside for all of 2020 and carried that momentum through most of 2021. That has obviously changed. But keep in mind, those stocks went up way further than what is normal, and it was due to the impact of the virus. Why is unimportant. They just did. They “got ahead of themselves.”
But the average investor, and the millions of investors who were new to trading, had no idea that this move was extraordinary, that it wasn’t normal. Those very same investors developed a very dangerous habit which is called “buy the dip.” They were told to buy the dip, they did, and they always won, they always made money during this run. During this very weird extraordinary period of time.
The problem is, markets don’t just go up at a 45-degree angle forever. They pull back…and the “buy the dippers” made the mistake of continuing to do what they did before here in December and January. They bought the dip! Except now, economic circumstances have changed. They missed that. Things like the Fed removing liquidity from the market and the stimulus checks no longer coming in and the talk about rates going up and inflation raging…all things that were NOT in the picture in 2020 or most of 2021.
Now the markets aren’t acting like they did. Surprise! Economic winds change, the market’s behavior changes too. Instead of Adobe or Apple pulling back a couple of points and then rallying up another 20%, they pulled back, and then they kept on pulling back. Adobe was at $699/share. Now it’s at $500 and falling. Upstart, one of the newly listed superstars and what we think is a great company, has fallen from $401/share to $100/share and it might not be done going down. And it has nothing to do with how good the company is. It’s just the pendulum swinging, that’s all. It’s just a correction.
So instead of all these stocks giving the buy on dippers the reward of a snap back and rising stock, they just kept on dropping. And then they dropped some more. The “buy the dippers” continued to buy them, some using margin, and they’re right now getting wiped out. The old saying is “Don’t buy until you see the blood running in the Street.” The blood is now beginning to flow in the Street as the saying goes.
These people have not realized that these stocks didn’t belong as high as they were to begin with! They went up too far. Too fast. Now they have to come back, and all they’re doing is coming back to what would have been a more reasonable valuation – or where they would have been without COVID. It isn’t any more complicated than that.
Those of us who have traded our whole lives and been in the markets forever know that, eventually, a market needs to correct. And that such a correction is healthy. My old mentor used to tell me that a correction is like a wildfire in the forest – it clears out all the underbrush and allows things to get sunlight and air and grow fresh again. He also said that it is simply a process of shares of stock moving from weak hands to strong hands. This is what we are seeing happening right now. The weak are the “buy the dippers.” We can see them starting to become disenchanted with the markets and sell out. Each and every “buy on dipper” that sells is capitulating. He’s throwing in the towel. He’s giving up. That must happen over and over again every day by the thousands in order for us to have a full correction.
That ball is already rolling down the hill and it’s gathering steam. In fact, we’re probably close to some kind of very ugly event which will force the last of them to throw in the towel. Goldman Sachs said just this past week that the retail investor is still around and still playing the game for the most part, which tells me that we aren’t done going down. The market will, we think, give the retail investor a real gut punch, where they “cough up blood” as we say so crassly on Wall Street. It’s graphic, but it’s true. We need to see a whole lot of people cough up blood for there to be a full correction, a full capitulation, and the fire will burn out and the markets will find a bottom. The weak hands will have handed their stock over to the strong hands, and the market can again move on.
This bottoming process can happen in two ways: It can be a sharp, dramatic drop, usually preceded by some kind of warning. If we’re listening to the market it will always tell us everything we need to know. We’re seeing many of these warnings since November of 2021. Or, it can happen with days like Thursday, January 20th, 2022, where the market rips up 440 points on the DOW, looks like its going to explode up 1,000 points, and then finishes down -330 points, an almost -800 point swing from the top of the day.
They sucked in buyers who were trying to catch the bottom and ride the next wave up, the last of the “buy the dippers” we think, and then they slammed them to the mat and crushed them. On that day, they did this in one very ugly day, which is in and of itself a warning to all of us traders. But this pattern has been happening in the previous weeks. And it might continue like this until we have seen a full-scale level of capitulation, where all the weak players in the markets have handed their shares over to the strong players. The weak, to be clear, is typically the retail investor who is usually only trading long. He doesn’t short stocks and he doesn’t know how to hedge for the most part. This is the typical retail investor who trades at a no commission house, and there are millions of them, many of them new to trading and investing, and my gut tells me that most of them are now seriously considering quitting the trading game – if they haven’t already.
The strong hands are the big guys, the very wealthy, the institutions like mutual funds and pension funds and monster hedge funds. They have capital, they can hedge and short and know how to do it. They know how to make money in a declining market and they also have the smarts to step aside and let this play out and selectively gather up great stocks that have been blasted down -70% or -80% from their highs. But remember those highs were kind of artificial to begin with, so the amount they’ve dropped from their highs isn’t even a relevant number to talk about when you look at it this way.

What To Do

If you’re a typical investor, you trim your positions, you go to cash, you don’t rush into anything. Let this thing play out. There will be days when the market looks like it’s going to rock to the upside and you’ll get the Fear Of Missing Out (FOMO) but resist that. There’s been a lot of damage here and that takes time to heal. Just like when I got hit by a car, I wasn’t walking around the next day or the next month. It takes market time to heal, just like we humans do. Because the market is a living and breathing thing, it’s an animal that lives digitally in our screens and it has a pulse and a bloodstream – and electronic bloodstream – and it will take a bit for all of this to clear.
We’re not out of the woods on inflation, we’re not out of the woods on supply chain, the Fed is making noise about raising rates and they’re removing liquidity from the system right now (it’s called tapering if you’ve heard that word.) There are some pretty interesting geopolitical risks out there, too, like Ukraine and Taiwan that could blow up this year that will add to uncertainty and instability. Let some of that play out, be patient, pick your spots and go small when you do go.


Finally, remember another thing my mentor told me: “Just because a stock has fallen from $400 a share to $100 a share and looks like a screaming value, don’t think for a minute that it can’t go to $50 or $20 a share. It can. And they do. The pendulum swings too far in BOTH directions.