For the confused buyers out there every little signal about a potential stock might appear interesting. But not all of them are really worth your attention. Take the simplest case of a big sale on an e-commerce platform. You might have seen that several products open up with a pre-order. Days and months ahead of the actual release of the product buyers end up paying for them before actually knowing whether the product would be worth the price.
Buyers are willing to bet high on such products without even getting their hands on it merely by the trust that the brand has established and the social hype. A similar scenario happens in the trading domain as well and that is what the experts call ‘buy the rumor sell the news’ or as some call it ‘buy the rumor sell the fact’.
What really is this strategy?
As simple as it sounds it is the strategy where traders buy an asset when there is a rumor about it, about its possible growth due to an upcoming news and then sell it when the news is released. What happens is when there is a rumor about say a new venture or a tie-up or any new event that is likely to affect the price of the respective stock there are many who rush to buy the stock. These traders buy the stock expecting a rise in the price when the event rumored really occurs.
So with the social signals pointing in the ‘buy’ direction, there are more and more buyers joining the league. The price starts increasing steadily even before the event actually occurs. But there is no concrete fact that says that when the news finally is being released the price would still break through its resistance level and continue to soar.
The supply might not always be as high as the demand. So the resistance occurs closely at a level where the news is released. With no more buyers to raise the demand, the price change might slow down. This might then create fear in the minds of the traders holding the stock resulting in their ‘sell’ decision. The ones that had bought it early waiting for the news would then abruptly sell the stock causing a steep fall in the price.
So should you follow it?
Anticipation sometimes leads to demands that are much more than the supply trends. This might not be beneficial for all the traders. But this is a beautiful shorting option for the day traders. It could especially be a good thing to do once the price starts dropping after the news actually comes out. One other way you could make use of this is to keep yourself updated so that you get to know about the rumors well in advance.
So if you are among the early buyers then you could sell the asset slowly before the news comes out where you can make small profits. Remember however that the strategy that works for one trader might not always work for the other. Use your discretion when you make such quick decisions.