I’ve always been a big advocate for bears taking opportunities to hedge at big support levels, especially in times when there’s prevailing bullish momentum. The reason for this is obviously is sucks to be short at the wrong times, but also the expected overall outcome of hedging is good - even when the market will crash.
In this post I’ll show a very simple example of this in the Nikkei. Let’s say we were Nikkei bears heading into the last year of the rally.
If we’d been looking for tops but also been wary into drops and looked for cheap spots to hedge very simple trend rules of stops under the last low and a target of 1:2 RR would have produced three winning signals. Total of 6 times whatever is risked.
Next one gets rugged and you end are net 5 risk on the hedges.
The odds of you bearing bearish at the exact high first time are very slim and it really is likely if you hedge every time by the time it breaks you’ve made a lot more than you lose. You’re also MUCH more likely to be in good bear positions because you’ve taken off a lot of pressure and increased available margin with the hedges.
Any chance there is of losing by hedging as a bear when fading a bit trend is to not start doing it early. The Japan example is idealist and totally curve fitting getting in at all those lows but in SPX we did this in real time with the entry at 3900.
I explained back at the time my decision to go long here was largely because I knew it would make me much more comfortable in this area. Where I know the 76 short may come and I also know a spike out may come. It’s a tricky spot where I may get trouble but I’ve done well running into it.
Hedging from 3900 makes me quite indifferent about getting rugged on hedges at this level but even with no previous hedging profits as a buffer I’d suggest the RR here is good for hedging. The downside (using basic trend rules) vrs upside (Using next fib resis) is shown below.
Let’s say hypothetically this swing hits. There are a few things that might happen next. Most possibilities have been covered with basic trade plans here.
When we were there, we’d have another tricky spot. It would be a huge beat level but if we slam into that with a lot of momentum we’d have be cautious of head-fakes. We’d think the short was coming end of green area but have to be worried about some sort of final stop runs.
And you will worry about it …
If you ignore the warnings and opportunities to hedge you will start to notice the pattern of false hope sell-offs. So many times you’ll have thought the drop was starting only to see one little bull candle followed by several large ones. And come to expect this is what you’ll see again.
And when you get into that situation it becomes very common for people to finally quit here.
The irony of me being someone’s who’s presented a macro bear thesis for a long time posting this near term bull stuff at what may potentially become a modern day version of this is not lost on me, not at all - but I think it’s important to give these warnings. It’s a sad time being a bear into a real stop run high (Or uptrend).
It’s important to consider the worst case scenarios if you’re right but far too early. If we were in this spot:
That’d be bad. Because we’d lose again at the spike out with it all looking like a great signal giving us lots of time to get very confidently wrong with positions to reflect that and then we’d get run. For a while we’d wonder if it was head fakes and remain heavily short bias.
Then soon after it starts to make bear candles again and we’d be liable to pick up more false signals. Lose. Think we’d been head-faked. Lose the same trade again.
And the fact of the matter is if you go through that your chances of shorting where the real high is (With a good position) are essentially zero. Unless you’re extremely wealthy with a gambling habit or someone who’s stopped out for tiny losses extremely quickly (But then you’d probably be trading smaller by default).
Personally, I think the high should come at one of these zones.
But what I think is totally irrelavent because I thought the same here.
What I know, beyond any doubt, is I have extremely interesting potentials for shorts on any of the fib extensions.
This is the best trade.
I do not think that’s going to happen, but if it does I want to be fit to bet on it when it sets up. I certainly do not want to be short during something like that but I also know I am going to lose trades in this area. It just makes sense to bet there based on the RR/Probability.
So here’s the thing. If the worst case scenario means you have to worry about ALL that stuff I just said. Not only being wrong but all the horrible little mind tricks the market plays on you along the way. If there’s all that to worry about not hedging and in most cases hedging is going to pay for its own risk - it makes sense to do it!
We currently have the most cost effective spot for bears to hedge since the warnings of Feb. It may be there’s a rug pull, but stops can protect against that - if there’s not, there’s going to be a squeeze. It is almost certain at this point if we do not see a bear break we should expect a squeeze if bears are right.
Which would be to say a very uncomfortable series of spikes. If it turns out bears are way too early nominal risk taken now could protect from serious losses later.
In all probability we’re very close to the big trend decision in this area. It could be violent. I expect people will get hurt in the next swing. Both to the bull and bear side a violent swing would be implied and people are far too confident on either end. Be careful. This is a risky spot.
Lot of money can be made with good positioning here but you need good spot management.