Avoiding the Improbable

One of the biggest challenges, even for experienced investors, is that the market tends to be a bad teacher; it acts a certain way for many months, lulls investors into a sense of security, and then quickly changes its tune, leaving most investors dancing to the prior rhythm. That’s exactly what happened for much of 2015, as the market taught investors that every dip is buyable, or at least, that stocks will bounce back quickly after any decline.

But history shows us that trading range-type markets are not the norm, and so 2016 favored a return to a trendier environment. And that’s exactly what we’ve seen—the market has moved straight down during the past 14 trading days, with the Nasdaq falling as much as 15.7% during that time, with rallies thus far limited to just two or three hours at a time.

It’s been an improbable move, but as Jesse Livermore once wrote, it’s just such a dramatic move investors need to guard against. We haven’t avoided all of the damage, but we did come into the year 45% in cash and quickly hiked that to north of 70%. Being in a highly defensive stance now, our job is mostly to practice patience and build a watch list, though a nibble on the short side or on a new potential leader isn’t completely out of the question.

What if you’re not in a defensive stance? Simply put, you should work to get there during the next few weeks. You shouldn’t panic out of everything right now, as the market is extremely oversold (just 14.6% of Nasdaq stocks came into today above their 200-day line, one of the lowest readings in years) and could easily snap back a few percent. But you also shouldn’t just “hold and hope” for a bounce.  In other words, take a few steps out of the water (starting with your worst performers and biggest losers), and use rallies to lighten further.

As usual, with the market making a dramatic move, the appetite for predictions has reached a fevered pitch, both for stocks and oil, which have moved in lockstep for the past few weeks. We could easily provide some guesses and price targets, but if the past few weeks has taught us anything, it’s that predictions are rarely worth the paper they’re printed on.

That said, we will share our big-picture view: As opposed to the brief pullbacks of the past two years, there has now been such intense selling in the broad market (four downwaves since August, each producing hundreds of stocks hitting new lows) that, once the market finds a real bottom, we’re likely to see a real, sustained uptrend, with new leadership producing big profits. We’ve seen this scenario play out countless times in the past, and have always jumped on some big winners when the tides turned. There’s no reason to think this time will be any different.

This is an excerpt from Cabot Growth Investor, where we’ve been picking the best growth stocks since 1970. Cabot’s flagship advisory combines expert stock selection and award-winning market timing. It’s the most complete and most helpful, growth-oriented investing advisory available anywhere.

Michael Cintolo is Cabot's Vice President of Investments and Chief Analyst of Cabot Growth Investor and Cabot Top Ten Trader. To read customer reviews of Cabot Top Ten Trader, click here. To read reviews of Cabot Growth Investor, click here.

Michael Cintolo can be found on Google Plus.

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