Sunday, March 15, 2009

Dead Cat Bounce for Stocks?

A "dead cat bounce" is a term used by traders to describe short lived rallies in the stock market during bear markets. It is also used in the futures market.

During a "rip roaring" bear market you often see hard, short lived, rallies to the upside. When these rallies occur there is often an accompanying sense of relief on the part of investors. Some investors, however, become anxious believing they are missing something and they jump into the market--they buy. Shorts often help fuel dead cat bounces--they turn buyer to cover their shorts.

There is a second type of short I call the "johnny come lately". This very emotional trader reaches a point where they can't stand it anymore and they short the market into a near term low--right before a dead cat bounce. They never consider that the market has been going down for some time and is subject to a correction within the down trend--the dead cat bounce. "Johnny come lately's" sit back and watch the market drop like a lead brick until they reach the point where they can't stand it anymore--they short the market. Looking for a quick killing, JCLs help fuel the, short lived, up side rally by covering their shorts (they turn buyer to cover). Sometimes they are the "cat".

Dead cat bounces are often spectacular in their nature. Hard, fast, often greater than 10 percent, and short lived. Ten percent or more by any standard is a big rally. You can get hurt bad if you short the market at the bottom right before a dead cat bounce.

I am not sure how the term "dead cat bounce" came into being. I do know that if you lived in New York City long enough you will hear a story about a cat that fell out the window (say about 30 stories down). They do bounce, and they do leave a mark. The cat ends up fully intact but dead. The mark they leave looks like a big wet spot. Enough said.

Words of wisdom in a bear market. Never try and catch a falling knife.
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Bob DeMarco is a citizen journalist and twenty year Wall Street veteran. Bob has written more than 500 articles with more than 11,000 links to his work on the Internet. Content from All American Investor has been syndicated on Reuters, the Wall Street Journal, Fox News, Pluck, Blog Critics, and a growing list of newspaper websites. Bob is actively seeking syndication and writing assignments.