If you are trading actively, now is definitely a time to be more cautious.
The S&P closed the day down only 0.5%, but technical analysis tells us today's reversal could end up being much more significant. After opening higher this morning, the market immediately sold off and accelerated lower after disappointing ISM manufacturing survey results were released at 10 a.m. ET. The S&P saw its three-day win streak snapped, and I believe we could see some additional downside in the coming days.
Today's move resulted in a bearish engulfing candlestick on the charts that will have short-term traders cleaning up long positions and either flipping short or moving to the sidelines. Although today's candle looks ugly, the S&P still sits above the recent upper floor of 1397-1403. With the Oscillator still reading overbought, I expect us to at least test that floor tomorrow.
In addition to the indices, several stocks that were strong over the past two weeks had push-through failures that could lead to more downside. If you are trading actively, now is definitely a time to be more cautious.
Facebook (NASDAQ:FB) is one of those stocks that put in a Red Dog Reversal today. The stock, after rallying 45% since the IPO lock-up expiration, pushed through $28 for one last short squeeze, and then reversed back down through that level to trigger the reversal strategy. FB accelerated lower in the last 20 minutes of the session and closed at $27.04, down 3.4% for the day. I believe this reversal could lead to a short-term move back to $26. I don't usually like to “flip” positions (meaning go from long to short in the same day), but I went short today for a cute cash flow trade after being long the stock for the past two weeks.
Google (NASDAQ:GOOG) is another example of a stock that could use a rest. It was rejected at its 50-day moving average today, but didn't have a potent reversal like some stocks. I will be watching GOOG closely over the next few days to see how well it holds up.
Apple (NASDAQ:AAPL) also held up better than most stocks today, and continues to rest after the potent reversal on November 16. AAPL actually finished narrowly in positive territory. I am out of AAPL right now as this is a time to be more cautious, but, like GOOG, I will be watching it closely over the next few days.
One way to check the temperature of a rally is to measure Fibonacci retracement levels. The first one to watch will be the 61.8% zone; if that holds, then we have preserved most of the bullish momentum of this rally. Even if we hold the 50% level, we can still resume the rally through the end of the year.
Markets will likely continue to remain skittish over the fiscal cliff negotiations as we get closer to the end of the year. Today, House Republicans presented their first concrete budget proposal. The plan would generate $800 billion in new tax revenue without raising income tax rates by closing special-interest loopholes and deductions, although the specific examples of loopholes and deductions targeted were not mentioned. The $800 billion represents only half of President Obama's desired $1.6 trillion in new tax revenue and will almost certainly be unsatisfactory to the White House.