Big Bitcoin Fake-Out

How reading the news can hurt your trading...

SOME market pundits are convinced stocks are gearing up for a big year-end rally in stocks, writes Greg Guenther in Addison Wiggin's Daily Reckoning.

Other prognosticators see nothing but doom and gloom on the horizon – along with a major market correction. I believe there's credible evidence supporting both scenarios.

But the market doesn't care what you or I (or anyone else) thinks. We could gather the world's most prominent bullish and bearish investors for a weeklong retreat to debate the merits of their arguments. Yet this exercise would have no bearing on how stocks finished the year.

The world is much too complex for market action to work out this way. We're always just a war, pandemic, or terrorist attack away from having to rethink just above everything we thought was true at the time.

Right now, the averages are stuck in a sideways struggle. It's a frustrating situation for many traders and investors since the market isn't trending higher or lower.

But I believe we can put these choppy periods to good use.

Instead of forcing too many ill-advised trades, we've discussed some of my bigger-picture market philosophies over the past several weeks. And as the chop continues, it feels as if the action is subtly confirming the most important messages from our discussions.

We have no edge in the markets. We cannot discover any magical formula that will give us an advantage over other investors.

Fundamental information has no short-term predictive power. And, most importantly, price is the most effective indicator we can use to time our buys and sells.

While these concepts are relatively simple, they are far from easy to put into practice.

Fortunately, the markets are gracious enough to give us another chance to get it right. Our best opportunities are always right around the corner, no matter how we've performed in the past. If we pay close attention and are willing to learn from our mistakes, the market will offer teaching moments we can use to get better every single day.

One of these amazing teaching moments just so happens to be playing out this week. The story isn't over yet, but the initial reactions as it began to unfold tell us a lot about how markets work in real time – and how emotional investors typically react to new information.

It all started early Monday morning as futures were attempting to rally off their overnight lows. Bitcoin was also starting to tick higher after pushing toward $28K on Sunday evening. Traders were on the lookout for a bounce in the tech growth and crypto following Friday's ugly performance. But they had no idea what would happen next...

Just before the opening bell, Bitcoin suddenly exploded higher. It looked like it was starting to squeeze as the price jumped from $28K to almost $30K in just a couple minutes.

But after a little digging, it appeared that this potential breakout move was triggered by a social media post. A crypto Twitter account with almost 2 million followers reported that the SEC approved BlackRock's iShares spot Bitcoin ETF.

Bitcoin was rocketing on the SEC approval news. There was just one problem: no other sources seemed to be able to confirm the information. After briefly hitting $30K for the first time since August, the rally began to unwind almost as fast as it appeared.

By 9:45, Bitcoin was well below $28K again. Forty-five minutes later, the same Twitter account that initially spread the news was posting an apology:

Cointelegraph later revealed that they took a tip that turned out to be a fake Bloomberg headline. It’s still unclear whether this was a prank or someone attempting to manipulate the market.

But as far as I’m concerned, the reasons don’t matter at all…

To be clear, I don’t fault the folks at Cointelegraph for the SEC mixup.

Whether the news is “real” or “fake” doesn’t really matter. What does matter is how the market reacts to the information.

In this case, an extreme influx of buyers swooped in when the headline first hit social media, bullying the price of Bitcoin sharply higher.

But what happened to these early news reactors?

I suppose some of the more savvy buyers might have set alerts that allowed them to get in minutes — or maybe even 20-30 seconds — after the news broke. But there’s no realistic chance that any random trader was able to get in at the exact moment the market started moving.

Accounting for slippage, I doubt it would even be possible to make a profit on a move like this. In a more likely scenario, you’d buy in the $29K range, then get stopped out minutes later as the move failed. Or, even worse, you would buy and then watch your position immediately sink into the red as Bitcoin reversed.

As we discussed earlier, this story isn’t over yet. Bitcoin did manage to slowly move higher into Monday evening following the initial attempt at $30K. But I have to assume there are more than a few traders with underwater positions who attempted to play the headline.

The takeaway is simple: You can’t trade the news or time your short-term buys and sells by the headlines. Whether you’re tracking a planned earnings announcement or a surprise event, it’s impossible to know if the buying or selling force from the initial reaction will continue.

This is also one of the main reasons I never attempt to play earnings. You never know how a stock will react – even to solid numbers. The CFO could hiccup during the conference call and send the stock down 5%. Or, you might have to sit through a couple of false moves while the market attempts to sort out its final reaction to the new information.

The purest breakouts in the market that are most reliable happen because of supply and demand dynamics. Aggressive sellers overwhelm demand, or aggressive buyers chew through supply at critical levels.

Once resistance is defeated, the stage is set for an extended move that can play out for days, weeks, or even longer.

That’s where the real money is made.