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For a while there, it appeared as though all the negative market sentiment was unfounded, but then last Friday, we saw the market’s internals deteriorate quickly, which forced me to shift my market outlook to the defensive.

To be clear, I don’t think this is going to last long, but time is only one part of the equation. If the decline doesn’t last long, but drops hard, we would still be wise to stay in the comfort of cash.

But just because the market is risk-off right now doesn’t mean that the trader’s work is finished. So, I want to talk about what I do during such volatility to prepare myself for an inevitable bottom…

The Strong Still Get Stronger

When it comes to market trends, the strong get stronger, and the weak get weaker.

So, what does this mean for markets that are dropping? Keep in mind that the vast majority of my trades are on the long side of the market. If only market drops were a good time to take a vacation…

Instead, I like to scour the market and look for the stocks that are holding up the best, both on a technical and percentage basis.

The difference between the two is simple. On a technical basis, I want to see which stocks are not making new lows relative to their previous lows, especially if the indices are making new lows.

When it comes to percentages, I simply look for stocks that are down less on a percentage basis than the indices. These are more likely candidates to emerge as leaders once the market bottoms.

I always like to remind people that the majority of the work as a trader doesn’t actually involve transacting in the market. On the contrary, most of the time it’s spent reviewing charts, analyzing markets, and calculating risk-reward ratios. That’s where the dollars are earned.

In summary, I encourage you to use this time wisely. Prepare yourself for the market’s next upswing and identify those leaders.

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