AM: Fortune favors the bold

AM Update

MARKET BEHAVIOR

Markets are selling off for a second day, but temporarily found support in early trade at 1451.  1450 was overhead resistance in December and is acting as support here.  Even though the day is red, we are still close to the Fiscal Cliff highs and a wave of selling has not consumed the markets…….yet.

MARKET SENTIMENT

Declines over the last two-days have bears licking their chops, but a 15-point pullback after a 70-point rally can hardly be called breaking down.  No doubt things can accelerate from here, but so far the market is holding up well and this modest pullback is far more bullish than bearish.

This weak spell is seducing bears to short and spooking weak longs into selling.  The question is if all this selling will hit critical mass and trigger further selling, or if this bout of weakness will clear up and we head higher on lack of supply?  Two consecutive red days is an open invitation for people to start dumping shares, but the modest 15-point decline shows people are relatively comfortable holding because they expect better things to come.  It is bullish if these holders are longer-term investors willing to hold through some near-term volatility.  But if too many are greedy momentum chasers bought this rally late in the move, that sets the stage for a selloff as these emotional traders rush for the exit all at once.

The unique thing about the recent rally was the speed and timing in which it happened.  Occurring during the holiday-split week and having a monster gap on the second day reduced the number of shares chaining hands during this move.  There simply wasn’t time to spook out shorts or let value investors sell to chasers.  We woke up last Wednesday to a monster gap and everyone was caught flat-footed.  The internal dynamics were different from a rally that marches higher and develops over time.  A lot of shorts stayed short because they are waiting (praying) for the inevitable pullback.  Chasers also saw how big the gap was and area developing an aversion of heights.  And previous value investors are more confident in their position since they were proven right after buying the Fiscal Cliff dip.  And this is why selling hasn’t accelerated.

TRADING OPPORTUNITIES

Expected Outcome:
Although the market is getting close to the 1450 level, it hasn’t broken support and the current price action hints at a continuation.  If the market finishes off the lows, that means it resisted the temptation to collapse in a wave of selling for a second day in a row.  Based on this support, the dip should be bought, not sold or shorted.

Alternate Outcome:
The market is not a science and technical levels are better drawn with crayons than a straight edge, so a dip under 1450 doesn’t automatically kill the rally, but a plunge under it does.  I know this is a little ambiguous  but if analyzing the market was easy, everyone would be rich.  And that is the art of tape reading, knowing what is a real breakdown and what is just a test of support.

A lot of people are watching the 1450 level and a violation could send us down in a wave of stop-loss selling, especially if a new negative news story give buyers pause.  But for the time being, I think the upside potential of another short-squeeze is greater than that of an avalanche of selling, but I reserve the right to change my mind as conditions develop.

INDIVIDUAL STOCKS

AAPL is trading just above $520 as everyone waits for earnings.  So far nothing has changed and that is why the stock is stuck in this $500-$550 range.  The recent trade and news hasn’t changed anyone’s mind on the stock and it will take new fundamental data out of the company’s earnings release to break this log-jam.  The one exception would be if traders start warming on the stock and start buying the stock in anticipation of a strong Q4 result.

Stay safe