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Using
Contrary Opinion in Trading Markets
By
Jim Wyckoff
I
have told my readers that one of the best methods to trade a market
is to jump on board when prices "break out" of a
congestion or "basing" area on the charts and begin a new
trend. I have also stressed to my readers that one of the most risky
and least successful trading methods is trying to pick tops and
bottoms in markets. Now, I'm going to muddy the waters just a bit
and discuss contrary opinion.
Contrary
opinion in the trading business is defined as going (trading)
against the popular or most widely held opinions in the marketplace.
This notion of "going against the grain" of popular market
opinion is difficult to undertake, especially when there is a steady
drumbeat of fundamental information that seems to corroborate the
popular opinion.
To
help you understand why contrarian thinking is used successfully by
some traders, consider these questions: When is a market most
bullish? When is a market most bearish? The answers are: A market is
most bullish when the highest daily high on the chart is
scored--it's downhill for prices from there. A market is most
bearish when the lowest low is reached on the chart, and then the
market turns up.
It's
no wonder many novice traders lose their assets quickly in the
futures trading arena. Traders are most bullish at market tops and
most bearish at market bottoms!
Since
nobody has discovered the Holy Grail of trading markets, the best
traders can do is seek out clues, through chart and technical
analysis, and possibly do some contrary thinking.
If
you've read books on trading markets, most will tell you to have a
trading plan and stick with it throughout the trade. A main reason
for this trading tenet is to keep you from being swayed or
influenced by the opinions of others while you are in the middle of
a trade. Popular opinion is many times not the right opinion when it
comes to market direction.
I'll
give you an actual example of how contrarian thinking and trading
can be successful. The year was 1988, the last big drought year in
the Midwest that saw corn and soybean prices skyrocket. It was a
Friday in July that saw corn and bean prices trade sharply higher,
based on ideas the hot and dry weather would continue in the Corn
Belt. Then, after the close, the National Weather Service issued its
6-10 day forecast that, sure enough, called for more hot and dry
weather for the Corn Belt. Bulls confidently headed home for the
weekend. Even "local" traders on the Chicago Board of
Trade floor went home long--something most never do, especially over
a weekend.
Well,
come Monday morning, the updated weather forecasts had changed a
bit, but more importantly, trader psychology had changed immensely.
The drought and resulting poor yields had all been factored into the
market with prior price gains, culminating with Friday's big push
higher. Corn and bean markets traded limit down on Monday and
recorded very sharp losses for around three days in a row.
I
know of one trader who used contrary opinion thinking and bought put
options on corn that Friday that prices were pushing higher. He made
a good deal of money that next week. But isn't that top-picking?
Yes, technically it is. But this trader used a low-risk trade by
purchasing options and employed contrary opinion to score a winning
trade. Contrarian trading is not for everyone, but some traders are
successful in employing it.
For
further reading on using contrary opinion in trading, there is a
book called "Contrary Opinion" by R. Earl Hadady. He is
the founder of Market Vane's "Bullish Consensus." This is
a weekly report that provides traders' degree of bullishness or
bearishness in the major markets. Traders use this report to help
them gauge when a market is overbought or oversold.
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