CEO, InvestorPlace and Co-Founder, The Freeport Society
Just like a financial crisis breeds opportunity, times of extreme market volatility are great for short-term traders.
That’s right…
The same volatile, chaotic markets that are terrible for novice investors are fantastic for short-term traders.
In fact, times like the 2007-08 financial crisis, the 2000-02 dot-com crash, and the 2020 COVID-19 crisis are like the Super Bowl for short-term traders.
During those chaotic times, traders can make the equivalent of 12 years of profits in just 12 months.
To great short-term traders, chaotic, volatile markets are times when the sky opens and starts raining gold.
You can build your whole career around these kinds of markets.
I know crashes and panics can be bad for a lot of people. My heart goes out to them. But I didn’t make the rules. I’d change them if I could. And the fact is, crashes and panics create incredible trading opportunities.
That’s when it starts raining gold.
How Can Something So Bad Be So Good?
The key here is “short term.”
Volatile markets and times of crisis are great for traders because they create huge moves in the markets that play out over the short term.
A move that might play out over 12 months in a calm market can play out over 12 days in a fast-moving, volatile market.
In a calm market, you might see the stock market move 15% in 12 months.
In a volatile market, you can see the stock market move 15% in 12 days.
Instead of seeing the price of crude oil change by 20% over two years, a volatile market can create a move of that size in two months.
These big moves can be up or down… What’s important to know is that they are large. And they happen fast.
While short-term trading may scare some people off, it shouldn’t.
There are several examples in the real world.
For instance, some businesses make most of their money in bursts.
Take a beachfront restaurant on the East Coast… in a place where lots of people go for vacation. The beach restaurant makes most of its money during the summer… when lots of people go to the beach.
They can make a fortune during the busy season.
During the winter, that same restaurant might barely get by… or just shut down and reopen in the summer.
Or take ski resorts.
They make money when it snows. During the summer, they shut ’em down.
It’s just like that with short-term trading.
In volatile, fast-moving markets, huge moves both to the upside and the downside take place over a few months… and that’s when traders make lots of money.
Again, making 30% over three years isn’t all that exciting. Making 30% in three weeks is another story.
One of the hallmarks of a volatile market are those kinds of moves.
I would even say that’s one of the definitions of a volatile market – a time when big moves happen over short time frames.
It’s that simple. And it’s great for traders.
The more people are in a panic… the more dislocations… the crazier and more out of whack the markets get… the more money traders make.
Let me give you some examples…
Dislocations Bring Traders Opportunities
We all know the COVID-19 pandemic created extreme market volatility… extreme price dislocations… all over the world.
Because so much of the global economy shut down, there was a glut of oil. Prices even went negative for a short time. It was a market panic.
As a result, oil stocks plunged 60% in less than three months.
Then the market rebounded. Oil stocks soared 45% off their lows… again, in less than three months.
In a calm market, those kinds of moves can take years to play out.
But during the COVID crisis, they played out in three months.
Another story from the pandemic is Zoom Video.
Thanks to the surge in video calls, Zoom enjoyed a big revenue boost. People got so emotional and excited over the Zoom story that they piled into the stock and sent it rocketing 221% in six months.
But because people bid up Zoom to absurd price levels relative to its revenue and profits, the shares crashed over 75% in less than a year.
These kinds of giant short-term moves are uncommon in calm markets.
But they are very common in volatile markets where emotions are running high.
Take another historic panic – the 2007-08 financial crisis.
Back then, people were worried the next Great Depression was at hand. They sold their stocks with no regard to their underlying values.
They didn’t even have the option to think about value. They had to raise cash to meet margin calls and other obligations. So, they sold first and asked questions later.
Panicked sellers sold Amazon all the way down to less than $2 a share.
But as people returned to their senses, Amazon skyrocketed more than 100% of its lows… in less than six months.
Apple was a similar story during the panic.
Investors dumped the stock in 2008. But then Apple hit bottom and soared 157% in less than a year.
Many people wait seven years to make that in stocks!
Then you have the total chaos of the dot-com crash during the early 2000s.
The big tech leader Cisco soared thousands of percent in the years leading up to the bust… and then crashed more than 70% in less than a year.
It was a massive move in a short time.
This kind of move can produce spectacular gains in a short time for traders betting on a drop.
Why would you wait five years to make 100% when you can make it in five months?
The Key to Short-Term Profits
A big key in all this comes down to investor emotion.
Times of extreme volatility — when markets go through huge ups and downs… when people are worried about the system holding together — are dangerous for most investors.
When markets are going through huge ups and downs, investor emotion tends to fly off the charts.
Emotions are the enemy of good investing and trading.
During volatile, emotional times, investors panic and sell near bottoms… then panic and buy near tops.
Markets are rational most of the time. They price most assets correctly most of the time.
But when emotion levels go off the charts – like they do during volatile times (or during financial crises like we mentioned in the previous section) — emotion overwhelms reason.
During a crash, terrified investors sell first and ask questions later. They buy and sell assets with no regard for their underlying values or ability to produce cash flow.
During volatile times, the price of assets decouples from the value of assets.
This means, if you can keep your head while others are losing theirs, you can profit from big moves in the market.
When most investors hear about a crash or a panic in a market, their instinct is to sell. They avoid volatility.
To most investors, volatility is a bad word. It’s like a spicy pepper in your oatmeal. You don’t want to see it in your sensible, conservative investment mix.
The talking heads on financial television complain about volatile markets. Mainstream headlines make it sound like volatility is a terrible thing.
Which brings up one of the greatest lessons you can ever learn about the financial markets…. one of the true keys to market mastery.
Great traders and investors love volatility.
In fact, it’s a landmark moment in someone’s investment career when they realize that volatility can be harnessed… and can help you make a lot of money quickly.
When that realization happens, a world of huge opportunities opens.