A dead cat bounce, as traders refer to it in stock market
jargon, is a short-term increase in stock price in what is otherwise a downward
trend in bearish markets. Discover how to identify a dead cat bounce and what
this price pattern means.
What Is a Dead Cat Bounce?
A dead cat bounce pattern in financial markets denotes a
brief but sharp price movement increase in an otherwise down-trending price
pattern. A dead cat bounce indicates that a market or a specific company's
stock price is in a bear market, which occurs when the price of a stock falls.
This short price increase could be due to the clearing of oversold assets or
short positions. Dead cat bounces are a continuation pattern, not a
reversal”the upward movement may appear promising at first, but will quickly
reverse.
Dead Cat Bounce Meaning
The Wall Street term "dead cat bounce" refers to
the idea that even if a dead cat falls from a great height, it may still bounce
upward before falling back down. Other terms for this brief resurgence in an
overall downward trend include "bear market rally," "sucker
rally," and "bull trap."
How to Identify a Dead Cat Bounce
Because of market volatility, dead cat bounces can be difficult
to spot in real time. Financial traders frequently misinterpret dead cat
bounces as bullish market trends, but longer-term chart patterns reveal the
price action change is a blip. In retrospect, technical analysts can see that
the short-term increase is part of a larger bear market.
Dead cat bounces are relatively easy to spot on a graph. To
begin, look for a bear market, or one in which prices are consistently falling.
Then, within that few weeks or months' downward trend, look for sudden, sharp
increases where the price quickly rises for a few days. Following that
temporary recovery, the price will plummet again, with the stock price falling
as quickly as it rose. The price will continue to fall as part of a bear market
continuation pattern.
Examples of a Dead Cat Bounce
Dead cat bounces are typically part of a larger bear market
that may last several months or years during periods of greater economic
volatility. The world was in an economic downturn during the 2008 recession,
and stock prices fell precipitously. There were a few dead cat bounces in that
downward trend that showed financial promise but were short-lived.
Due to the COVID-19 pandemic, traders' portfolios plummeted
to new lows in late March 2020. Following a few weeks of steep decline, some
companies' stock prices experienced a brief surge, only to see the downward
continuation pattern resume after a few days of rising prices.
