Overiew:

One of the coins that appears to be a contrarian trade is Litecoin.  Because of the price level, the risk to reward looks ripe for the contrarian trade, but we need to verify if this is a true candidate.  So what do we look for in a contrarian trade and moreover do you fit the persona of one fit to be a contrarian.  Before we get into the charts let’s define what we consider a true contrarian trader.

Contrarian Trader:

The contrarian trader is a rare breed of trader that steps into a trade when the market is hated, prices are extremely depressed, sentiment is at extreme lows, and there is simply blood in the streets.  They have an iron stomach and are WILLING to take some pain for a prolong period of time.  Setbacks do not change their philosophy and they do not jump from strategy to strategy looking to get rich quick.  These are the John Wayne of traders and investors.  They volunteer for this, understand it can lower, and the losses can be great.  They also understand there are no technical reason to go long, it is just so low, so beaten up, they do not care about taking the opposite side of the “pain trade”.    

The question:  Is Litecoin a candidate for a contrarian trade and which side is the “Pain Trade”?

LTCUSD Weekly:

There is nothing even remotely bullish about the weekly chart here.  The consolidation here is most likely a continuation pattern, but what we have to ask ourselves is, “how much lower can we really go”?  This is what every contrarian must ask themselves and the answer is simply zero in these markets, but at these extreme prices how can the contrarian not consider adding?

Like several other alt-coins there are no traditional support levels here, just projections.  The next level lower is 17.50 which is not to far off.  Currently there is nothing in the weekly price structure signaling a bottom, other than hitting the lower end of the trend channel.  Broader trend is very much bearish.   Let’s zoom in and see if there is any evidence for a potential bullish reversal.

LTCUSD Daily:

Here again we see no current signs of a reversal pertaining to the trend.  The mid and short term trends are bearish.  The current pattern is often considered a continuation, but this is not necessarily the fact.  We do have a double bottom pattern, and a very aggressive long signal here, but this is really for day traders looking to grab a 0.5 to 1.0 point move.  

The descending triangle, regardless of the broader trend direction, has a about a 65% probability of breaking to the downside.  This is why traders often look to trade these types of breakouts.  Yet what is not calculated into the equation here is position, and position is very much important.  These types of statistics can be misleading as markets are not based on one variable but several. .

Every time we pullback further, the probability of a reversal increases with these types of patterns.  This is why we do not trade solely based on triangles, or other patterns that form randomly during consolidation periods.  Consolidation whether descending, ascending, or flat is simply that, consolidation.  At some point the continuation pattern becomes a reversal pattern so how do we identify the difference?

You can’t at this point just from the chart.  This is where sentiment and position become variables in the equation.   The pullback here is very extreme, and to levels only a few months ago we never would have thought probable.  This kills market sentiment, and we see that with many just throwing in the towel.

Fake-Out:

This is a great setup for the typical market fake-out.  Now this does not imply it happens, but this is an area we look for one.  A break of 22.25 would signal a short trigger, and could push us down to the 17.50 area we mentioned above, but it could also be a bear trap.  Let’s zoom in a little further to look at the structure.

LTC 12 hour:

This is about as textbook as you get.  Most taking a short trade on the breakout would have a target level between the 17.50 and 19.75 area.  Not so fast shorty! Slightly above this target zone, we have a shorter term level of significance at 20.50.  I would be very cautious around the 20.50 area, where a possible fake-out could form.

Shorts have been making easy money, and just like antelope that are grazing in the tall grass, eating and getting fat, there is always a predator lurking somewhere within.  The longer they eat, the more relaxed they become which becomes the typical trap.

Markets are no different and we see this time after time either into extreme highs or in this case extreme lows. The lower we go, the more confident shorts become, and the probability increases of a short squeeze.  The issue with shorts is they are leveraged, and this is their Achilles heal.  They MUST become buyers.  Let’s take a look at short interest.

LTC Short Interest:

After looking at this chart, I almost want to just make a pure contrarian trade here.  It is not a question of how many are left to sell their coins, but how many are positioned to the short side already.  We often mention that the contrarian trade should be positioned with the move that would create the most pain to the most number of traders.  When you add to that the likelihood that many are waiting for a reversal to occur before entering the market, it makes it that much more painful.  They call this “The Pain Trade”.  Another item to look for is traders fading the trend.  Looking at the past two days, we see some evidence of this, as earlier traders close out or reduce position size at this level.

Short interest is about 1.25 the current daily trading volume on Bitfinex.  Not an area I want to be short in, especially with so many that will be rushing to the exit if someone hits the alarm.  In short this is a rather narrow range, 17-23 where the contrarian trade is applicable.  With that said there is no guarantee we reverse so to think taking  a long position here will work out, is naive.  Contrarians are a certain breed of investors and traders, this is not for the weary as losses can quickly mount, but with great risk comes great reward.

Contrarian Setup?
  •  Prices at extreme lows with limited risk to the downside 
  • Market sentiment at extreme lows
  • There is definitely “blood in the streets”
  • The “Pain Trade” is to the short side

Sure seems to fit the Contrarian setup, but remember being a contrarian and acting like one are two different things.  There are many definitions for the contrarian trader, but most are really not what we consider a true contrarian.  Some are “fashion contrarians”, or “technical contrarians” but these are like wannabe cowboys.  You know the type that wears the boots, the belt, the hat but has never rode a green horse.  To be a contrarian you really have to position yourself against the trend, and be willing to take the pain associated with additional price depreciation.

Summary:

Taking the contrarian trade is risky, and requires the investor or trader to have a True Grit.  It is not for the weak, or those that are financially exhausted.  It is only for those that can afford to take some financial pain, and are not easily pushed out of positions.  If I was taking the contrarian trade here I would allocate a fixed amount of capital and buy in 1/3 or  1/4 positions.

I say this because all too often, traders and investors focus on quick profits, and ignore the potential interim pain involved in these types of trades.  This opens them up to being easily manipulated or pushed out of trades before the move happens.  Before taking any contrarian trade you should ask yourself if you can afford to handle the pain both psychologically and financially.  

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