Enemy Number One For Traders Is Emotion

It’s 6:00 am on the west coast and the US stock market is set to open lower. The headlines are that Apple shares are trading sharply lower in the pre-market as a direct result of the company lowering their earnings guidance due to the impact of the Coronavirus. Since Apple (AAPL) is the biggest stock (measured by market capitalization) in the Nasdaq 100, and is also a component of the Dow Industrial Average and the S&P 500, it has major influence in the movement of Stock index Futures.

When markets become volatile the usual response is an emotionally charged set of actions. On one hand, the bulls see any pullback as a buying opportunity as the market has been charging upward making new all-time highs almost on a daily basis. Their fear of missing out on the upward move is allayed temporarily because the selloff provides an opportunity for them to buy at lower prices. This cohort welcomes the bad news.

Investor man having stress losing money on stock market fall

Then, as the market advances, this fear of missing out also sets in motion a dynamic that usually doesn’t end well. That dynamic is chasing trades (when individuals buy high with no regard to what price they pay for a stock or Futures contract). They are buying high late into the move with the expectation that they will sell higher; but risk a strong chance of price reversing on them. If momentum is strong they may capture a profit, but it’s a tricky game as this is not particularly a low risk strategy. Many times, they find their fear of missing out was misplaced as the market environment can change rapidly and the pullbacks can turn nasty, punishing the Johnny come lately in the market.

The other emotion evoked during an expansion in volatility is the fear of giving back profits. As the market continues higher, many more market participants have been accumulating shares and, depending on when they purchased their shares, have garnered profits along the way. They will fiercely guard their gains and any signs of the market falling sharply will trigger selling from these nervous Nellies as they are usually trading without a plan.

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