I am a great believer of contrarian view about the market behavior. When fears engulf us and everywhere there is a feeling of pessimism, I find it work smartly. Contrarian trading is a strategy where traders go against the prevailing market sentiment and take positions that are opposite to the majority of market participants. This approach can be rewarding for traders in several ways, but it also comes with its own set of risks and challenges.
In the recent times, global markets are in the mood of correcting themselves. When Indian market, especially Nifty50 is also corrected approx 747 points from its life-time high of 19992 and reached around 23.6% Fib correction level of its total move 3164 points starting from 20th March-23, I was active.
And, I noticed that at 23.6% Fib correction, Nifty50 was continually taking support multiple times at this level and its 2-Period Connor RSI (Relative Strength Index) was also showing oversold condition, my conviction made me aware that I should go long. I went for long with a Nifty September 19200 ITM monthly Call Options with a Stop Loss 1 ATR (Average True Range) below 19200 levels. And, voila! I am still sitting on 400 points profits and exited my position today.
So, contrarian trading many a times is beneficial and here are some potential benefits of contrarian trading:
Profit from Reversals: Contrarian traders often look for overbought or oversold conditions in the market. When a stock or indices becomes extremely overbought means too many buyers or oversold mean boat load of sellers, it may be due for a reversal. Contrarian traders can profit from these reversals by taking positions in the opposite direction of the prevailing trend.
Go against Herd Mentality: Contrarian trading helps traders to go against the herd mentality that often leads to bubbles and market crashes. When everyone is greedy buyer or fear seller of a particular asset, its price may become overinflated or tanked. This situation creates an opportunity for contrarian traders to sell or buy and profit from trading.
Lower Entry Points: Contrarian traders can enter positions at more favorable prices compared to those who follow the crowd. Buying when prices are low (during pessimistic sentiment) or selling when prices are high (during euphoric sentiment) can lead to better risk-reward ratios.
Emotional Control: Contrarian trading requires discipline and emotional control. It can help traders develop a mindset that is less influenced by fear and greed, leading to more rational decision-making.
However, it's essential to recognize that contrarian trading is not without its challenges and risks:
Timing Risk: Timing is critical in contrarian trading. If a trader enters a contrarian position too early, they may experience significant drawdown before the market sentiment reverses in their favor.
False Contrarian Signals: Not every extreme market sentiment will result in a profitable contrarian trade. Sometimes, market conditions may persist longer than expected, leading to losses for contrarian traders.
Information and Analysis: Contrarian traders must have access to accurate and up-to-date information and conduct thorough analysis to identify potential reversals in sentiment. This requires a deep understanding of market dynamics and the ability to differentiate between short-term fluctuations and genuine trend reversals.
Risk Management: Like any trading strategy, contrarian trading requires effective risk management. Traders must set stop-loss orders and position sizes to limit potential losses when their contrarian trades do not go as planned.
In conclusion, contrarian trading can be beneficial for traders who have the skills, discipline, and risk management strategies to implement it effectively. It offers opportunities to profit from market sentiment extremes and can help traders avoid the pitfalls of herd behavior. However, it also comes with timing risks and the potential for false signals, so it's important to approach it with caution and a well-thought-out strategy.
