Several famous clichés are tied to the capital market: “When it rains, everyone gets wet,” is one.“Only when the tide goes out do you discover who's been swimming naked,” is another, as is “Buy the rumor, sell the news.” But one important cliché describes the most important rule in trading: The Trend is Your Friend.
Prices Move in Three Directions: Up, Down, or Forward.
The market does not move backwards, because time does not move backwards. The market’s directional movement is called its “trend.” When the market rises over a period of time, we call this the uptrend; dropping over a period of time is called downtrend, and when it “moves sideways” with insignificant deviations, it is called a trendless market. It is easy to profit when there is a trend, and very difficult when the market has no trend. Generally, those who make money in a trendless market are the brokers who profit from commissions.
What does this mean? Trade in the direction of the trend, and only in the direction of the trend. Accompany it and actualize it as long as there are no signs of it ending. The more careful you are about integrating trends, as will be explained later, the better off you will be. The perfect trade occurs when I buy a stock with a clear trend, the sector in which the company operates shows an identical trend, and the overall market shows the same trend.
Don’t Try to Swim Upstream
Even though I always teach my students to trade in the direction of the trend, it happens that new traders in our trading room suggest buying or shorting against the trend. The basis of their suggestion seems logical: “the stock has dropped enough and therefore must make an upside correction” or “the stock has gone up and must make a downside correction.” Yet, other than in very unique cases, this thinking is fundamentally flawed.
Buying a stock on a downward trend, or vice versa, is like swimming against the current of a surging river: there’s very little chance you will reach your target, and even if you do, you’ll be exhausted. Occasionally, a trader who suggested shorting an upward trending stock later draws my attention to the fact that the stock did indeed drop by so many dollars. I am happy to congratulate his or her success, but also add my generic response, “I guarantee that if you do this ten times, you will fail in at least seven of them.” I have spent sufficient years and gained enough experience to guess when a stock is changing its trend, and now am able to relate how I failed in the majority of instances. Don’t try it. It’s a waste of your time and money.
Trading with the trend allows me to long (buy) strong stocks that are rising and short weak stocks that are dropping. In this way, I preserve the advantage of the trend, and increase my chances of success. Trading against the trend reduces chances of success and misses opportunities in other stocks which are moving in the trend direction.
To learn more about the stock market and to begin your own journey toward financial independence, visit Meir Barak's site Tradenet and check out his book "The Market Whisperer."
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