Shark Radar

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Jan 25, 2021, 2:08 PM GMT

Why Is It That Downtrends Tend to Be More Abrupt Than Uptrends?

In trading, perceptions matter a great deal. More often than not, they matter even more so than what conventional logic would otherwise dictate. For instance, suppose a situation in which the majority of traders seems to be convinced for whatever reason that a given stock is bound to appreciate in the following days and weeks, even though it`s current value is obviously overpriced.

If the market were completely rational all of the time, the share price in question should correct itself. However, since things are seldom so clear-cut in real-life situations, traders' perceptions end up being the deciding factor in most such cases.

In other words, it matters most whether traders think that the glass is half full or half empty, even more so than the actual liquid volume currently in the glass. And when it boils down to perceptions, there is a distinct difference between how they affect uptrends and downtrends. But why is that?

At the most basic level, people seem to be attracted to rising prices. This is so because price appreciation is subconsciously associated with progress and improvement in a free-market environment. The conventional logic of trading dictates that it is a good thing to 'buy cheap and sell high', even though you can (almost) just as easily profit by selling high and then buying back your position low.

It is precisely this affinity to 'buy and hold' - type strategies amongst the vast majority of traders, leading to the frequent creation of massive uptrends in the longer-term. In contrast, downtrends tend to be much more abrupt and volatile. A downtrend could cover the same distance an uptrend would traverse much faster. This also has to do with mass-market psychology and the impact of typical traders' perceptions.

Falling prices also trigger a sub-conscious response in many traders. In contrast to the somewhat soothing effect of rising prices, depreciating markets tend to alarm traders. They incite a feeling of uneasiness and concern that something is not as it should be. Consequently, traders become much more likely to have an emotional response and panic-close their underlying positions. When this mass-market behaviour takes place on a large enough scale within a relatively narrow period, the result tends to be a massive downtrend.

It is important to remember that such traders' perceptions tend to drive markets up and down, and that is why they frequently end up serving as substitutes for conventional logic. This is not necessarily a bad thing, as understanding how the rest of the market feels at any given point in time could help you appreciate the market behaviour for what it is and not what it should be.