Markdown is the classic downtrend that comes after the distribution phase. It is characterized by its tendency to go down rapidly than its markup counterpart.
This is due to the inherent market volatility that accelerates the declines, came about through the mix of 2 psychological states:Optimism: where the majority of the public expects uptrend and therefore justify themselves in buying the stock when the price moves up (as uptrend confirmation), and also when the price moves down (it is a bargain). Complacency: where the public have lost interest due to the prolonged distribution phase. They tend to focus their attention on the market that “moves” or “hot”. It is exacerbated by the major media who have similar behavior, and often sensationalize the reporting.
The duo creates the cycle that reinforced itself; Public rally behind hot stocks, major media picks on it and dramatize the reporting, the public watch the media and causes more people to rally behind that particular stock, major media picks on it again and creates even more drama, and so on. In this markdown phase, the price pattern would eventually unravels itself, becoming clear that higher prices are not possible. The decline is unexpectedly steeper than usual, and the selling pressure becomes too great for the market to bear as some smart money who entered long in the markup phase begins to sell their accumulated stocks.
Traders who do shorting at this point may become more aggressive, impacting the selling pressure as they make larger profits on successive price decline. Also, the weaker price bounce fall shorts of previous high, and more people begin to enter the market and start selling aggressively. Market mood changes from optimism to disappointment, especially for the public who expected a markup.At a certain point, everyone in the market would be convinced that the stock would never rally, and the correct play now would be shorting to oblivion. More trades would come in to do just that. The major media would start reporting about this phenomenon, causing the public to go into panic mode because of their complacency and sells their remaining long position to minimize losses.
This emotional extreme generally marks the very bottom of markdown, and the market stabilizes itself to restart the cycle, starting with accumulation again.The explanations correlates well with the hunch of many traders that there exist a distinctly different feel to rallies in markdown (bear market), compared to sell-offs in markup (bull market). Markdown rallies tend to be vicious and sharp, whereas markup rallies are more controlled and orderly. This is true albeit the near symmetry between markup and markdowns structure. It may explain why some traders avoid operating on markdowns, whereas others specialize in them, due to different skillset required to handle the volatility.