Are You Doing This Drill Every Day?

Yesterday was an air pocket, as the (SPY | Quote | Chart | News | PowerRating) re-crossed its 102.34 20-day EMA, trading down to a 101.11 close, -1.8%. Tuesday's rally to 103.29 couldn't make it past the upper gap level of 103.40. The ($SPX.X | Quote | Chart | News | PowerRating) closed at 1009.38, -1.9%, and below it's 1018.62 20-day EMA and also below the trend channel it has been trading in since the Aug. 6 low of 960.84. NYSE volume expanded on the decline to 1.56 billion, the volume ratio lopsided at 18, with 1.3 billion shares down, and breadth -1069. The Dow ($INDU | Quote | Chart | News | PowerRating) at 9425, -1.6%, with the major damage in the technology stocks, with the Nasdaq at 1844, -3.1%, (QQQ | Quote | Chart | News | PowerRating) 33.35, -3.4%, and the (SMH | Quote | Chart | News | PowerRating)s -4.8%.

The SPX declined more than all of the sectors, except the (BBH | Quote | Chart | News | PowerRating), which was -4.2%, and the XBD -2.5%, both of which have had good moves during this leg of the rally. The SMHs were led down by the equipment stocks, with (AMAT | Quote | Chart | News | PowerRating) -6.2%, (NVLS | Quote | Chart | News | PowerRating) -5.9%, (KLAC | Quote | Chart | News | PowerRating) -4.9% and (INTC | Quote | Chart | News | PowerRating) -4.1%, which is the primary weighted stock in the SMH HOLDRs.

The exits did get crowded yesterday in the semis as the Generals sold stock, but it wasn't a problem for the professionals that had locked in a major portion of their gains using the January '04 puts, or in some cases, taking their money off the table and replacing all or some of their position with longer-term calls. The SMHs had made a +124% move from 17.32 to 38.85 and some of the individual semis much more. The time to initiate protective strategies is when implied volatility is low and into the extended strength, not on obvious weakness (see the Sept. 22 commentary).

Our friends from the Middle East got it rolling yesterday with the oil price flap. My guess is that they were long index puts and long the drillers before making the announcement. The difference is no one regulates them, so they have a free ticket to ride. We still haven't heard the result of the extremely abnormal option activity prior to 9/11, but I guess it's because they don't want the information public for obvious reasons.

We've picked up the Sept. 19 initial price and volume moves in many of the energy stocks from my index screen on the TradingMarkets site. I mentioned the activity in (NE | Quote | Chart | News | PowerRating), (BHI | Quote | Chart | News | PowerRating), (PTEN | Quote | Chart | News | PowerRating), (BJS | Quote | Chart | News | PowerRating) and (SLB | Quote | Chart | News | PowerRating) as the leaders that day, and they were, of course, all up yesterday. Maybe that buying preceded the news. This was also in the 9/22 commentary, along with expanding volume and declining prices in many of the momentum stocks as profits were being booked.

For Active Traders

Yesterday's market action is significant from a trading standpoint, in that the major indices have dropped to a lower inflection zone. The SPY closed at 101.11 vs. the 50-day EMA at 100.91, which is 1004.91 for the SPX. The QQQs closed at 33.22 vs. its 32.63 50-day EMA. The SMHs closed at 35.32 with the 50-day EMA at 34.77, which is the next primary zone of confluence. 34.50 is the .236 retracement from 38.85, the rally high, to the February primary low of 20.36. 34.50 is also the .50 retracement from 38.85 to the last major swing point low of 30.18 on Aug. 8. Looking at this second leg down from the 38.85 high, you see that AB = CD at 34.69. Net net, 35 - 34.50 is a key zone for price action and setups. Some other sector examples are the BBHs at 132.50 vs. 132.52 and the RTH that closed at 86.71 vs. 86.41. You can do the drill with anything that you are trading, but there is lots of opportunity in either direction from this zone.

Yesterday's travel range was good for traders. The SPY had a Flip Top short entry below 102.92 on the 9:55 a.m. ET bar (not labeled on chart that I have included today). The first reversal setup was on the 13th bar with the 102.58 low. This was the .618 retracement to the Sept. 22 102.04 low. Your entry was above 102.77, the signal bar high, which was short-lived as it was stopped out when the SPY took out the 102.34 20-day EMA and also the previous day's low. If you didn't double up and reverse below 102.58, then you had to take a short entry going through 102.34 with a tight stop. In spite of all the news and emotion recently, the SPX continues to trade with excellent symmetry, as I have outlined on the charts, starting with 102.04, which is the .618 retracement between the Sept. 12, 101.35 low and 104.70, the Sept. 12 high.

After the 103 top, the SPY made a .618 retracement to the 102.04 low at 102.36. It then rallied to the 102.96 - 103.40 gap at 103.29, which had .618 symmetry to the 104.70 high. It was also the 1.618 Fib extension of the BC leg. The SPY closed at 101.11, just above its 100.91 50-day EMA. The 1.618 Fib extension of the 102.04 - 103.29 leg is 101.26, so its a price action zone, but the early futures are green, so it looks like early reflex up. Stay tuned.

Have a good trading day,

Kevin Haggerty