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How To Trade The Coronavirus Selloff

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by Gavin in Blog
March 18, 2020 0 comments

Its certainly been an eventful few weeks in the markets and the spread of this virus and the associated panic has been swift.

Volatility has gone through the roof with the VIX trading as high as 84.83 on an intra-day basis and 82.69 on a closing basis. To put that into perspective, the highest closing level after September 11th was 43.74 and the highest close in the 2008 recession was 80.86.

The S&P 500 has already dropped 30% and in a very short space of time. It’s hard to fathom that less than one month ago SPX was testing 3400. Now, there’s every chance we might hit 2000.

MY THOUGHTS

It’s generally accepted that things are going to get worse with the virus before they get better. By association, that means things are likely to get worse in the markets as well.

The best case scenario is that the spread of the virus starts to slow down in which case the markets are likely to make a pretty sharp recovery given the amount of central bank stimulus being thrown around.

We need to watch for a flattening out in the number of new daily cases and on the markets we want to watch for some positive divergence between SPX and VIX.

That means if SPX makes a new low, but VIX DOES NOT make a new high, the panic is starting to dissipate and that may provide the platform for a meaningful bottom.

There are a couple of good resources to keep track of the virus:

https://www.worldometers.info/coronavirus/

and

https://www.arcgis.com/apps/opsdashboard/index.html#/bda7594740fd40299423467b48e9ecf6

HOW MUCH FURTHER WILL MARKETS DROP?

That’s the million dollar question and the truth is nobody knows. What’s seems likely is that negative sentiment will feed on itself.

Business are shutting down which means layoffs and reduced profits. Layoffs means less disposable income for workers, which means less spending which means less business profits.

The whole thing becomes a self-reinforcing cycle. A 30% drawdown is certainly a nice time to start putting some money to work, but it also depends on your timeframe because things could get a lot worse in the short-term.

A total 50-60% drawdown from the peak is not out of the question.

Dollar cost averaging is always a good strategy to minimize risk.

With volatility so high, Wheel trades become attractive as a way to gain exposure to blue-chip stocks that you’re willing to hold for the long-term.

Personally, I’m currently 100% in cash. I have a rule that if my account drops 10% I close all positions and take a 2-week break from trading so thankfully that has allowed me to avoid most of the carnage.

I may end up extending that to 4 weeks because this really is an unprecedented situation.

Trade safe and look after yourselves and your families!

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Options Trading 101 - The Ultimate Beginners Guide To Options

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