Be Careful Trying to Catch a Falling Knife
How low will it go?
From Grok:
"Don't try to catch a falling knife" in technical analysis is a metaphorical warning against buying a stock (or other financial asset) that is in a sharp, rapid decline. The "falling knife" represents a stock's price plummeting, often characterized by steep, near-vertical drops on a chart, and attempting to "catch" it symbolizes buying the stock in hopes of timing the bottom, expecting a quick rebound. The phrase cautions that such a move is risky because the downward momentum may continue, leading to further losses before the price stabilizes or reverses.
Image: Made by Grok
Since my last post about a month ago, declines in the major US indices have been quite rapid, and many previous high flying growth stocks that were leading the market have been smashed.
The SPY is down nearly 10%
The QQQ is down over 13%
The FANG+ Index is down nearly 20%
All three indices have sliced through their respective 200 day moving averages (not shown on the charts above), and look like they could fall further. As I alluded to in the title, I want to be very careful trying to catch a falling knife.
How am I planning to enter new index ETF positions?
For my long term account, my preferred scenario would be a large gap down on a bad news headline that reverses hard intraday and closes with the big hollow (up) candle. This would provide a tradeable (potential) bottom, where risk can be defined clearly under the low of that candle. Of course, the low may not hold, but if it doesn’t, I am OK getting stopped out. I do not want to hold positions during a large drawdown when the indices are under their 200 day moving average.
For swing / medium term trades I will use call options, so I can define my risk. At the moment I have a limit order for SPX options, that expire on 20 June 2025, with a 5700 strike price. They are currently trading just over $190. I have a limit order at $75. The SPX would have to fall a lot for those orders to be filled. Futures are currently just under 5600, so a dip under 5400 would probably be needed to trigger that order. I am not confident that will happen, but it certainly could. I feel we haven’t really had a big flush or panic yet. Despite falling a lot, there hasn’t been a big VIX spike, or other indications of extreme panic or capitulation.
I will keep this post short, but will try to write at least weekly from now on. I will do a post about non-US markets, interest rates and FOREX, as well as some individual stocks in the near future.
Hope everyone has a great week!
Cheers!
Marcus Grant, CFTe
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