It is eerie how similar the current market action is to the correction we experienced back in August 2011.

Back then, the S&P 500 was up 8% for the year as it headed into late July. The Volatility Index (VIX) was at a historically depressed level. Investor sentiment was wildly bullish.

Then the selling started.

The S&P 500 lost 16% of its value in just seven trading days. The Volatility Index (VIX) spiked above 45. And technical indicators like the McClellan Oscillators reached absurdly oversold levels.

Those are the same sorts of conditions we’re seeing in the market right now.

So, I went back and read some of the articles I published back in August of 2011 – to see if I could find something of value for readers today.

Of course, I know some folks don’t like it when I reprint articles from the past. They prefer to read new essays every day. But I can’t think of anything more appropriate for traders in today’s environment than the following essay which I originally published on August 2, 2011…

Emotion is a trader’s worst enemy.

But it should be your best friend.

The problem, of course, is most traders let their emotions rule their actions. They buy when they’re feeling euphoric. And they sell when they’re scared to death.

Successful traders do the exact opposite.

Of course, we all know the best time to buy stocks is when there’s “blood in the streets.” The best time to sell is when everyone else is rushing in to buy. The trick to getting it right is to know how to recognize your own emotions, then do the opposite of what they’re telling you to do.

It isn’t easy. I’ve been trading stocks and options for almost 30 years, and I still struggle with trading on my emotions – especially when the stock market behaves as it has over the past couple weeks.

But I think I’ve finally figured it out. The answer came to me when I was visiting my friend Dan in the hospital last weekend.

Dan was in really good spirits, considering he just had quadruple bypass surgery.

“It’s the drugs,” he confessed. “Every time it gets too painful, I just point to the chart over there and the nurse ups my dosage.”

Dan gestured toward a laminated picture of the pain chart.

You’ve probably seen it before. It’s a picture of a series of faces that range from happy to sad. Its design helps improve communication between hospital patients and their caregivers.

Here’s what it looks like…

“How are you feeling?” the nurse will ask.

You just point to the face that best represents your pain level, and the nurse drugs you up accordingly. It’s a remarkably simple way to make sure we get the right amount of medicine. If you’re uncomfortable, you just point to one of the frowny faces on the chart and the nurse increases your dosage.

On the other hand, if you’re giddy beyond belief and you point to the super-grin smiley face, the nurse can cut you off completely.

We should use a similar chart for investors.

Think about it… What better way is there to gauge your proper exposure to the stock market?

Once again, we all know the best time to buy stocks is when there’s panic… when investors are suffering the most pain. And we all know the best time to sell is when Mom and Pop are grinning ear to ear because of the huge gains in their stock portfolio.

A financial advisor could instruct any client, “Please point to the face on the chart that best represents how you feel about the stock market right now.” If the client points to a frowny face, the advisor knows it’s a good time to increase that client’s dosage of stocks.

On the other hand, if the client points to one of the happy faces, the advisor knows it’s time to cut back on the dosage.

It is the easiest investment system ever.

Now that the S&P has fallen for seven out of eight days, I’d bet most investors out there would count themselves an 8 or 10.

Please drug yourself accordingly… and buy stocks.

Best regards and good trading,

Jeff Clark

Reader Mailbag

Today, a response to yesterday’s essay, “How Will You Feel Next Month?”:

Funny. Yesterday you were telling us to buy.

– Dawn J.

And many more to the overall market action…

Why couldn’t we go long SPY options anytime during this huge rally and now we go long during this huge red day? Is Monday or Tuesday major crash day?

– John W.

 

Your position to keep a cash cache was/is the best investing decision for this year. While I’ve been wooed into expanding my positions, your advice has kept this investing creep in check.

I think we missed the countertrend a bit with some of our trades, but by far we have done well by doing nothing. Good analysis, great advice.

– Kerry P.

 

Thank you, Jeff. You had been warning us about the overbought market! I was prepared for the selloff, but the market was actually up yesterday!

Although you felt Friday after the selloff all would be better, Monday was worse, as you had been warning all along! I’m not an options person, but was prepared thanks to your warnings!

– Pam D.

 

In this afternoon’s Earnings Trades Update, you stated, “I’d rather do nothing than take a trade where the probability of a loss is higher than the potential for a reward.” Thank you so much. That is EXACTLY why I love using your service.

I, for one, am willing to be completely patient until you determine that the risk/reward ratio is working in our favor. While the market is currently overextended, and in free fall the last couple days, it is fine to sit on the sidelines until the option premiums are sufficient to reward those who are patient and smart about their trades.

I have had excellent results following your recommendations. Keep it up!

– Tom S.