How to Interpret Trade Volume
How to Use the Stochastic Oscillator to Interpret Trading Price
How to Calculate Security Price Momentum with the Subtraction Method

How to Deal with Randomness in the Stock Market

Technical traders acknowledge that random events can and do cause a stock to have an occasional wild price departure from the norm, but the acknowledgement doesn’t alter the expectation that prices will behave normally. For example, you sometimes see a price spike so big that you don’t know how to interpret it. Often, you never find out why such a bizarre price occurred.

A price spike is the equivalent of a tornado in weather forecasting. You know the conditions that cause tornadoes — you just don’t know exactly when an actual tornado will develop.

Although nature may not be able to deliver a tornado in Alaska in January, the equivalent does happen in markets. Most market tornadoes, like Black Monday in 1987 (when the S&P 500 fell more than 20 percent in a single day), give plenty of technical warnings ahead of time. The problem is that traders often have those same warnings and don’t get a Black Monday. This is an inconvenient fact of life that you have to accept.

Spikes are both a problem and an opportunity:

  • If you know why a spike is occurring because you’re well informed about world events and market chatter in response to the world events, you may chose to ride it out.

  • To exit on fear of randomness is okay, too. You take no risk when you are out of the market. Nowhere is it written that you must have a position in the market at all times.

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