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  • Small-Cap Snap Sparks Caution

    By Rev Shark
    RealMoney.com Contributor
    3/9/2006 9:07 AM EST
    "Many have had their greatness made for them by their enemies."

    -- Baltasar Gracian

    There are few market participants who would disagree with the statement that it has been a tricky market lately. We have had attempts at both breakdowns and breakouts, but neither bulls nor bears can muster the momentum to create a trend.

    To make matters more complicated, we have an usual mix of crosscurrents. The DJIA has finished positive the last couple of days, but the Nasdaq and Russell 2000 have been down, breadth has been very poor and momentum stocks such as semiconductors and those in the IBD 100 have been slammed. Your conclusion about the health of the market depend quite a bit on what sectors and segments you are considering.

    The biggest danger now is being whipsawed. A stock looks ripe for a buy, you accumulate some shares and then it seems to immediately reverse course. You either then take a quick loss or you end up with a "long term investment" that you never intended.

    How do we contend with such a choppy and inconsistent market? We avoid trying to make big market-direction calls and focus primarily on individual stock picks and protecting capital. Even when the broad market is our enemy, we can still find ways to profit if we are willing to change our focus. We simply have to be increasingly selective and very unforgiving when we enter a trade. If we start to have some good trades fall into place we can increase our size and aggressiveness. Sooner or later the market will deliver a bit more consistency and then we will be able to increase our aggressiveness once again.

    The big hit that small-caps and momentum stocks have taken in recent days has made me more cautious. I still have the same underlying gut feeling that we are going to see a very strong upside rally but I have to respect what is on my screens and react to it. Although I believe the bears are wrong, there continues to be high level of negativity and the stirrings of rotation into new leadership. However, those forces have not come together and in fact many leading stocks have broken down. It is necessary that you respect that technical action and not let your thinking and feelings about the future make you less prudent in your market discipline.

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