Following the close on Monday, IBM (NYSE: IBM) announced Q2 earnings that hit their target but widely missed the accepted revenue forecast. And so on Tuesday the Dow opened with a plunge of almost 150 Dow points. But by noon half of the losses had been recouped, and by the close stocks had reversed the opening with a gain of 1% for the day.

Investment bank Goldman Sachs (NYSE: GS) also opened lower after weak revenues, and a host of complexities resulting from the financial crisis cut into their financial report. By the close, however, the powerhouse bank managed to gain 2.22%. 

The afternoon rally appeared to be sparked by anticipation of what the Fed chairman would say during his semiannual congressional testimony today. Others said that the rally was in anticipation of better earnings from Apple (NASDAQ: AAPL) and Yahoo (NASDAQ: YHOO), which illustrates the scramble that occurred to account for the buying.

PepsiCo (NYSE: PEP) rose 4.32% after reporting success in the launch of its new line of Gatorade drinks, and Harley-Davidson (NYSE: HOG) jumped 13.6% following a strong Q2 in which the motorcycle company reported earnings of $0.59 a share vs. an expected $0.41. 

Housing starts were off 5.0% vs. an expected decline of 3.2%, but the market seemed to ignore the shortfall. June building permits increased by 2.1% compared to an expected rise of 0.7%.

At the close the Dow Jones Industrial Average was up 76 points to 10,230, the S&P 500 rose 12 to 1,083, and Nasdaq gained 24 points, closing at 2,222. The NYSE traded 1.1 billion shares with advancers over decliners by almost 4-to-1. Nasdaq traded 589 million shares and advancers there were ahead by over 2-to-1.

Crude Oil for August delivery rose 90 cents, closing at $77.44 a barrel. The Amex Energy SPDR (XLE) gained $1.19 at $53.25. August Gold gained $9.80, settling at $1,191.70 an ounce, and the PHLX Gold/Silver Index (XAU) rose $3.83 to $169.08.

What the Markets Are Saying

Yesterday was a wild day of trading in which stocks were crushed on the opening and then rallied sharply. And that surprising reversal put many traders out of sync with what they thought should have happened. One email I got from a frequent reader complained that yesterday was "one of the most confusing days of trading" that he had experienced in years. 

One of the problems of trading in markets with such low volume is that volatility increases as fewer participants rush in one direction or the opposite with equal abandon as they overreact to any news, while ignoring important technical zones. Yesterday it was assumed at some point in the afternoon that Apple would come out with strong earnings after the bell. The result was a massive rush to the exits for short sellers while just hours before shorts and longs alike sold irrationally following the lousy revenue reports from IBM and Goldman Sachs the day before.

More experienced traders will use extreme runs like yesterday’s opening overreaction to cover their profitable shorts and wait for another excessive move up to initiate new positions. In other words there is less risk in trading against the market than with it as long as you take positions on the extreme side of the big swings. This sometimes takes a lot of nerve to go against the crowd. But if you reduce your risk with timely stop-loss orders and take smaller positions, you may find that your success ratio improves while your blood pressure goes down.

In light of Apple’s torrid earnings and revenue numbers, which exceeded all forecasts, I expect the market to open strong. If it gaps up and runs through the 50-day moving averages of the key indices, the next opportunity to take short positions will occur at the down trend line at around Dow 10,350. Imagine the euphoria as TV commentators will no doubt be announcing the end of "the correction," but that’s about where savvy traders will likely enter their new shorts. 

Going against the crowd in light-volume markets can bring big gains.

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