My Thought Process: $SPY Selloff

One type of price action that puts me on alert for a hard down move in the market is unusually large gyrations in quick succession. That is what is what we saw during the first few hours of trading today. Points 1&2 on the chart show up and down moves larger than the ATR of the SPY. This type of signalling usually occurs on the daily time frame. For a good higher time frame example check the SPY chart from January 2010.

Point 3. The SPY was at 167.80 and sellers started to take control as the pattern of higher lows was broken. At this time SPY 167 Puts were being purchased.

Point 4. More traders on the desk jumped into the SPY short.

Point 5. The short trade is working

Point 6. This spot is where many traders who have missed the one point hard down move look to catch the bottom since we are in a strong market. It does not matter to them that this is not a typical pattern we have seen in recent trading days and therefore they should be focused SHORT! Note the market dropped another 1.50 from this level in the next 70 minutes.

Point 7. This is a good place to take profits on shorts initiated from point 3. A 3 point range on SPY is unusually large and even though there was another point of downside the market has an 80% chance of retracing higher from this point. I was looking for a retracement of about ½ point but we only got ¼.

OK I admit it I nibbled on some NFLX at 227 before the Close 🙂 But seriously one of the toughest things to do is step back and let stocks “come in” to levels where buyers are willing to seriously commit capital. If you were running a large hedge fund would you be rushing in to buy stocks the moment the dropped to the prior day’s prices? Also, there are a ton of higher time frame (HTF) traders who will exit positions tomorrow based on today’s weak closing prices. That should provide even better entries.

Typically in a strong market there will be good shorting opportunities as well. In the past two weeks shorting has become more difficult as buyers have become emboldened in even some of the weakest most broken down stocks. See my video review of RAX that had a large “dead cat” bounce prior to rolling over the past few days. Shorting the weakness didn’t work. It was only after RAX 12% did the BTFD buyers give up and let RAX rollover and make a new 52 week low.

If in the next few days we see weak stocks offering more well behaved shorting opportunities that is a sign of a healthier market that can continue higher longer term but without so much giddiness.

Point 8. Last Wednesday we took a SPY short at 166.35 and it sold off to 165.30 before popping back up to 166. The same area supported on Thursday as well. The fact that the SPY had now achieved a 4 point intraday range combined with this support area made it a great spot to cover the majority of shorts and to re-establish tomorrow morning between SPY 166 and 166.50.