You Need To Know This Key Difference Between Bulls & Bears
Understanding that the human reaction to data and headlines, that is emotion, is more important a driver of market prices than economic conditions, gives traders an extremely valuable perspective.
It allows them to take a step back and observe price developments with a higher degree of dispassion than if they were reacting along with the crowd.
All they have to do is be able to recognize how emotions manifest themselves in price action, and then act accordingly. But how does one identify if a price move is driven by emotion?
Think of market confidence in terms of trust.
Trust, between people, is built incrementally and over long-ish periods of time.
This same trust, however, takes but a split second to break; a misjudged decision, maybe even a too harsh word said in the heat of a moment, can be all it takes to undo years of work.
This asymmetric nature of trust applies to market reactions as well, and is expressed humorously in the Wall Street adage “Bull markets go up the stairs, Bear markets jump out the window”.
Bear markets are characterized by extremely quick and sharp drops in asset prices as market confidence plunges the financial system into a vicious cycle of margin calls, forced liquidations, and falling prices.
Trust is very quickly lost.
When asset prices finally bottom after the conflagration of liquidating longs runs its course, it is only natural for market participants to be extremely cautious about market and economic conditions. The question of further margin calls and failing counterparties are still very much at the front of their minds.
Remember that markets are simply a collection of humans (and their algos programmed to do the same things), making bids and offers.
Time is needed for them to work through the emotional trauma before beginning to grow in confidence that asset prices can recover.
Trust takes time to build.
Therefore, how quick and sharp a price move is can help traders identify what kind of emotional state a market is in, which can help them to understand the significance of turning points in markets.
Remember – emotion matters a lot in markets, confidence takes time to build and no time to break.
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