Revisiting Dead Cat Bounces | Podcast Episode #242

0:07
Hey, I’m Ryan Mallory, and this is my swing trading the stock market podcast. I’m here to teach you how to trade in a complex, ever changing world of finance. Learn what it means to trade profitably and consistently, managing risk, avoiding the pitfalls of trading, and most importantly, to let those winners run wild.

0:25
You can succeed at the stock market, and I’m ready to show you how. Hey everybody, this is Ryan Mallory with Swing trade in the stock market, and I’ve got a good episode for you guys here today. This one comes from a fellow up in Canada, Toronto, Canada, to be specific, and he asked me to provide him with a good Florida redneck name, so I’m going to give him the name Boone.

0:48
Sometimes those are your hunting dog names too, Boone, but uh there’s also Boone, North Carolina, which has some good old country folks there as well. Boone writes, hey, Ryan. It’s a pleasure to meet you. All right. Anybody who’s gonna say E meet you, you know this dude has got some dad jokes up his sleeve, and I’m not knocking on the dad jokes.

1:09
I’m a fan of dad jokes. I’m usually good for one at least once a day. He continues to write. My name is Boone and I’m from Toronto, Canada. Feel free to mention my real name as well as give me a redneck name if you’d like. Well, I gave you the redneck name. I’ve gone back and listened to all of your podcasts up to the start of January 22nd.

1:28
Almost up to date. Cannot thank you enough for sharing valuable insights that have come from your many years of experience. Here’s my question. What’s your strategy for playing dead cat bounces in terms of an entry? What are you waiting for? I would guess that you would say that when it confirms below the previous low with panic volume, etc. you always seemed to mention a few things beyond the obvious, so let’s hear it.

1:52
Also, I trade on TSX and I’m not looking to play any dead cat bounces of late. I know this isn’t a favorable market to be getting short just yet. Still technically a bull market. I want it to crumble just as much as you. LOL, and If there are or has been any, they are in the unfavorable sectors slash industries, ones that I haven’t been following the market or small caps.

2:14
By the way, I have fully adopted your risk management and other great trading practices pretty much to a T. I plan my trade before my entry, always, no FOMOing or panic selling. I set my stops at key support levels and follow through. My entries have good risk reward ratios, trading large caps and industries that are moving well with the market, mitigating risk as much as possible, paying attention to sector rotation, and where the money is flowing to find and catch opportunities before they play themselves out.

2:44
Boone goes on to write. I am entering my summer. Prior to my 4th year of university, I’ve been trading since 9th grade in high school. Really, I was gambling for pretty much all of it until about my 2nd year of university when I finally made my way through the fluff and started finding real info to guide long-term success in the stock market.

3:05
I know it’ll be years before I can trade full time. I need to build much more capital and experience, but I can say in the past few months listening to your podcast has exponentially. Help me in developing my intuition for price action in the stock market.

3:20
I am looking forward to your insights on making sure it’s the right time to get short on the stock market, specifically when you are looking to pull the trigger on a Decab following a major pullback. I appreciate your time. Boone. All right, Boone, that was a long email, man, but I appreciate all the insight that you provided me with.

3:40
One thing that I learned from Boone’s email is I guess people in Canada call it their 4th year of university or their 2nd year of university. I didn’t know that. I always call it like my 1st year of college or my 2nd year of college. I didn’t know north of the border, they call it the 4th year of university.

3:56
So that was kind of had to reread that a couple of times. All right, what am I drinking? I am drinking Homegrown Boone’s bourbon. Now, to the nose, it burns the nose, man, when I smell this thing. It’s like not the right nostril, for some reason it’s the left nostril.

4:13
It’s just like if you were playing like college or NFL football and you got your bell rung, they need to put some of this underneath your nose to snap you out of it. Now, to the taste, wow, this thing has got some heat to it. And that would explain it.

4:29
It’s 58.5% alcohol, that’s 117 proof. I got one of these little sample bottles. I never see sample bottles with that much proof to it. In any case. It’s got a lot of oak flavors to it, very spicy and hot. I mean that spicy hot almost overtakes the whole thing.

4:44
Personally, I wish it had a little bit more of a sweetness in its profile to offset that spicy flavor. It’s not bad, it’s really not bad at all. And I literally can’t even feel my tongue when I drink this stuff. I mean, it is strong. I think it would be really, really good and I think I might get myself a full bottle of it just to try it with an old fashioned because I think it would actually be really good with an old fashioned.

5:08
I’m gonna give it like a 67. It’s not bad. Yes, it could be an everyday sipper if you want that really strong spicy flavor. This one would probably be for you. It’s got a price point of like $38.39 dollars, I think at total wine. Again, homegrown Boons bourbon, I’d give it a 6.7.

5:26
Not bad. But man, is it spicy. OK, boom has a question about dead cat bounces. Now, I’ve done a podcast over 2 years ago on dead cat bounces. Now you might say, well, Ryan, why are you doing it again? Because even for me as a trader, I’ve been doing it for 30 years.

5:44
I continue to learn more and more things. So I feel like after 2 years of doing almost 2 podcasts a week, I’ve probably learned more things about dead cat bounces from my own experiences and just adapting to the way that the markets are now compared to 2 years ago.

6:03
Actually, no, it was 3 years ago. Now I’m looking at the day. It was February of 2019. So that makes it over 3 years ago. I did the last podcast on Deca bounces. So there’s actually two ways to play dead cat bounces. You can play the actual bounce. There’s no shame in doing that. It’s hard to do and you got to be very disciplined about it.

6:19
And then you can, and this is the one that I usually play, it doesn’t mean that I won’t ever play it to the long side playing the bounce. But, and I think this is what Boone’s getting to in his email, but I’m gonna cover both sides of it, and that is shorting the dead cat bounce. Now we had just recently a very strong dead cat bounce in the market.

6:36
You go, and if you’re listening to this in the future, like way into the future, look at the bottom that was forming in the S&P 500 and the Nasdaq on March 14, 2022. You’ll see, I mean, I think the S&P 500 rallied like 400 points within a matter of like a couple of weeks off of its lows.

6:55
It was a really impressive rally, but since then we’ve seen that it was a Deca bounce. It couldn’t hold those gains. It gave them all back up. But was there money to be made on that bounce? Yes. Did I make money on that bounce? No. I pretty much sat out that entire bounce, waiting for it.

7:11
It was getting really frustrating at times too. I’m like, I’m just watching this thing go up every single day. For a freaking dead cat bounce, this is one heck of a dead cat bounce. It’s not stopping. And then you start to doubt yourself along the way, you’re thinking to yourself, what if I’m just really on the wrong side of this trade and this thing’s going straight back up to all-time highs, and I think at one point, the S&P 500 got within like 2.8%, 2.9% from going green on the year when it was over 10% down on the year at one point.

7:40
So yeah, you start to doubt yourself quite a bit when you start to see these big massive dead cat bounces. And one of the things about a dead cat bounce, it can take you a lot further than you ever expected to go. Not all of them, but don’t be surprised if it doesn’t just peter out after a couple of trading sessions.

7:59
In the case of the March 14th bounce in 2022, it went for like two plus weeks. And then what happens, and this is where a lot of people get themselves in trouble, they’re waiting for this dead cat bounce to finally give way and they start to think, well, it’s not, it’s going right back up to all-time highs. And so they get long on the market. And when they get long on the market, that’s when the dead cat bounce ends.

8:16
How that happens in the market to so many people. I don’t know. I mean, I’ve been on the wrong side of it too, guys, and that’s one of the great things about this podcast is that I do share with you my experiences and show you how fallible I am as a trader and how I do make mistakes or wrong judgments about the stock market.

8:40
I never tried to shy away from that. But if you’re going to play the actual dead cat bounce, what you wanna look for is, OK, one. Did the first day of the dead cat bounce, did it make up a significant amount of losses, like, for instance, you might see where it dips down in the early morning trading and comes rattling back really strong.

9:01
If it did that, then the next step is to see, OK, are we gonna get some follow through? And that’s really the day that you want to start playing. OK, are we gapping higher or are we trying to sell off on that second day? Oftentimes you’ll see that 2nd day be the one that struggles the most to continue the day cap bounce.

9:16
So you’ll see like an initial attempt to try to drive it lower, stocks in general and the indices. Instead of going right back down, you see this turn on a dime and it follows right back through to the upside, eclipses the previous highs from the previous trading session, and keeps moving higher. That’s a good sign to start playing that Decat bounce.

9:33
But just because you get in at a good and opportune time doesn’t mean that you’re out of the woods just yet. You got to manage the trade. And if you’re gonna play a Deca bounce. It’s usually best not to like, do very small incremental profit taking, like taking a quarter of a position at a time.

9:53
It’s usually best to be very aggressive like, when you get in, you take like a half position off and then you later take another half position off or you just get in, you might get like 4 or 5% out of a trade, and then you completely get out. But time is usually not on your side with dead cat bounces.

10:11
Because they come in a time when the market’s actually struggling for a moment there, you’re taking advantage of a period in the market that’s not trading lower. That’s why they call it a relief rally. It’s because it’s going counter trend, it’s going against what the norm of the market has been of late.

10:30
And the very definition of a dead cat bounce means it’s not going to last. And if you don’t know what a dead cat bounce is or where that term comes from, it’s essentially, and it’s a morbid concept, I guess, when you start to actually explain it. But if you throw a dead cat off of a building, there’s no life in it, but when it hits the pavement, yeah, it’ll still bounce.

10:50
But it’s still dead, and so it’s kind of like that with the stock market rally. They call it the dead cat bounce, and now I’m trying not to laugh. I’m not a cat person, so maybe that’s why I’m laughing. But when it hits the pavement, the cat doesn’t bounce. When the stocks bounce.

11:06
It doesn’t mean that we’re on the cusp of the new bull market rally. It just means that like dead cats, markets will bounce. But they’re still dead. I guess, did I do that right? I’m not sure. It’s one of those concepts where it makes sense in your head and then when you actually try to explain it to an audience.

11:25
You feel like you just completely blow it. And the last thing I would say about a dead cat bounce when you’re trying to play the actual bounce itself to the upside is, don’t overstay your welcome. By definition, a dead cat b doesn’t last, and if you’re trying to top tick the market, you’re likely to lose more money than if you would have just got the meat and potatoes of that dead cat bounce.

11:46
Like once you get in on the follow through, don’t just try to wait it out. Once you start getting some decent gains, start taking some profits aggressively, you get close to a resistance level, just go ahead and close out the trade. That’s how I play it now. Inevitably, dead cat bounces come back down.

12:03
It’s a rally that can’t last. The dead cat bounces will provide some of the best reward to risk ratios out there. This is what I want to seize upon because when the dead cat bounce ends, stocks start to fall and they fall much lower than their previous lows.

12:21
And because they’re taking out the previous lows, it also entails a certain level of panic selling from the people who bought in on the dead cat bounce. The people who bought in. The large majority of them got in with the belief that the sell-off was over. And so then when all of a sudden the dead cat bounce ends and they don’t realize it was a dead cat bounce.

12:41
And then all of a sudden, they’re taking out the previous lows, there’s a certain element of panic selling that kicks in. And that’s where you really start to make a lot of your money. But again, when it comes to shorting the market in general, you’re also fighting the tide of hundreds of years of stock market history where stocks ultimately recover and go back up to all-time highs and keep the uptrend going.

13:07
So even with a bear market or a short position within a bear market, you have to realize that, that the market is eventually gonna go back up again. So you don’t wanna overstay your welcome to the downside. And what you wanna remember when you’re shorting these dead cat bounces and the stock market makes new lows, when it finally does bottom, whether it’s a temporary and another dead cat bounce, or it’s the actual bottom.

13:33
Those bounces are going to be vicious, and what you don’t want is to see all of your gains that you spent time accumulating just completely vanish. And for me, most of the time, I will use inverse ETFs for shorting the stock market.

13:52
One of the reasons why is when you use equities, and I’m not opposed to shorting equities, certain equities I will short, but when you’re using equities, let’s say it’s like a small cap or a big cap, let’s say you were short Twitter, then all of a sudden today you just got bought out, right, by Elon Musk. Then you’re on the hook for being squeezed out of a stock that just got bought out.

14:09
There’s a lot of risk, upside risk that can happen when you’re trading a lot of your smaller stocks. So, for me, and for my risk profile, it makes the most sense to use the inverse ETFs to short the market. But whether I use a 1 to 1, a 2 to 1, or a 3 to 1 inverse ETF is all gonna depend on the reward to risk ratio, like for instance.

14:31
PSQ is a 1 to 1 of the Nasdaq 100. QID is a 2 to 1 of the NASDAQ 100 and SQQQQ is a 3 to 1 of the NASDAQ 100. Now, which one do I use? Well, it’s gonna depend on the reward to risk ratio.

14:49
I usually do my technical analysis based off of the QQQ chart, which is what all of the inverse ETFs are ultimately based off of, and I’m gonna look for where I want my stop loss to be based off of what the QQQ chart does, and then I’m going to translate that into the actual ETF charts.

15:06
And can I do an SQQQ chart? Maybe. But the reward to risk ratio has to be right. If it’s gonna be like a 12% stop loss, I’m not gonna do it. And in the same case, if the 2 to 1 ratio is an 8% stop loss, good chance I’m probably not gonna do that. But if I can do the PSQ at 4%, OK, that one makes a little bit more sense because I’m not having to take on huge amounts of risk.

15:26
Now, that doesn’t mean I don’t ever do QID like right now, I’m in QID. And I would have gotten into SQQQ had the reward to risk ratio been more favorable, but the best I could do was QID. So you want to think about that when you’re getting into the market. You don’t want to say, I’m getting an SQQQ because I want to make a lot of profits.

15:45
Now, you should be asking yourself, can I handle the downside risk of where I’m putting the stop loss at? And if you can’t, then you probably should go to like a 2 to 1 or a 1 to 1. And if you can’t even handle the 1 to 1 risk, then just sit it out. And also, if you want the best information to help you in the stock market, go to swingtradingthestockmarket.com, where you will get all of my stock market research each.

16:09
And every day, that’s going to include my watchlists, my swing trading setups that I’m watching each day, plus the most intriguing charts of the day, and updates on the thank stocks and market indices. So check that out. You’re supporting the podcast when you do it, swingtradingthestockmarket.com.

16:25
I’m telling you, it’s some great information. You definitely want to be a part of it. So the takeaway from all of this. Deadcat bounces. They can be played both ways. You can play the bounce and you can play when the dead cat bounces over and the market resumes its down trend lower.

16:42
But you don’t have to play both sides. Some people might only be good at the dead cat bounces. Some people may only be good at shorting the day cap bounces. You don’t have to be good at both, but if you are, that’s even better. For instance, I mentioned earlier where I missed the bounce off of the March 14th low it’s not the end of the world.

16:59
I was doing great up to that point. I was positive on the year, still am positive on the year, and that’s what the market that’s trading significantly lower on the year. So you don’t have to catch the Decabs and it doesn’t like ruin your year if you don’t. And sometimes it’s good to sit out of them because they don’t last as long as you think that they’re going to last.

17:17
But whether you’re playing the bounce or whether you’re playing the resumption of the down trend following a Decap bounce, the requirements of having to manage the risk doesn’t change. And whether you’re trading inverse ETFs or just a particular stock, you have to make sure that the reward to risk ratio matches your risk profile and that it’s a favorable reward to risk ratio in general.

17:39
And I hope you guys like this show. Again, it was good to revisit an old topic that I did about 3 years ago. Initially, I thought it was only 2 years ago and then I was kind of shocked that it was 2019. So it was over 3 years ago that I did it. So it’s good to revisit these topics because I evolved as a trader over the years with the new experiences that I take on, and I like to convey those new experiences to you guys as well.

17:58
Plus, leave me a 5-star review if you can. There’s some of you guys that are holding out on that. I know who you are. No, I don’t, but it would be immensely helpful if you would do that for me. I would really appreciate it. I do read the reviews too, so make sure to do that.

18:14
And if you have a question that you would like me to talk about, send it to me at ryan@shareplanner.com. I do read all your emails. Thank you guys, and God bless. Thanks for listening to my podcast, Swing Trading the stock market. I’d like to encourage you to join me in the SharePlanner trading block where I navigate the stock market each day with traders from around the world.

18:36
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18:58
If you have any questions, please feel free to email me at ryan@shareplanner.com. All the best to you and I look forward to trading with you soon.