Figuring out when it’s time to sell is one of the biggest challenges for traders. Generally speaking, rising market volatility means it’s a good time to sell. Dropping volatility means it’s a good time to buy. However, a shift towards a new trend is not always that obvious.
Volatility is an undulating oscillator that can move quickly. When it rises sharply, traders panic and try to sell as fast as possible. But when everyone is hitting the exits at the same time, it becomes difficult to emerge from the scrum unscathed. The key is knowing it’s time to sell before everyone else figures it out.
Look for signs of an overbought market.
If you’re a contrarian (like me), it’s a bit easier to see an overbought condition. When I think markets are overbought, I’ll place a bearish trade. If the trend shifts, I will make a nice score. There is a risk, of course. If the trend is overly slow to tip, might have to bail before I see a nice payoff. As Keynes once said, “Markets can remain irrational longer than you can remain solvent.”
How to manage rising market volatility
Look no further than how we handled rising market volatility back in March. Before the markets crashed, the VIX was sitting at 20. It exploded up to 90 while the markets bottomed and sellers raced for the exits. Once they were out, they sat and waited. During that time, the VIX dropping steadily and is around 20 once again.
My advice is to pay close attention to rising volatility. A sense of complacency caused by too much confidence is taking hold. That last time this happened – in January 2020 – the bears swooped in when the VIX started to increase. We could see a correction, though it will likely not be as violent as what happened in March.
In any case, it’s time to buy some extra index puts for protection. Hold onto your cash, and wait to see what happens.