On July 30 of last year, I recommended taking a long position in the market as I considered it oversold on a short-term basis (using the CRB Stock Market Momentum Indicator) and was anticipating a bear market rally. As it turned out, the market was just in the beginning stages of a massive collapse and the trade turned out to be a miserable one. A closing signal for this trade finally came after the close on June 17. During the 323 days the trade lasted, the S&P 500 fell 27.4%. A graph with entry and exit points for this trade is shown below as well as a table with historical results from this momentum trading strategy.
Time to play defense
We now have two consecutive unprofitable signals. To keep that in context, these signals have come during what has been one of the most vicious bear markets in the last hundred years. I have not lost faith in the usefulness of this momentum indicator as a timing tool, but to avoid blunders of this magnitude in the future I will be using a stop-loss rule for the trade. Furthermore, given the current overbought conditions, I think this is a good time to close some long positions or perhaps sell near-the- money call options on existing long positions with expiration anywhere between July and October.
