The Cool Down

 | Oct 23, 2013 | 4:33 PM EDT
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The volatility in big-cap momentum names Tuesday was the tipoff that trouble was brewing, and poor economic news out of China provided a convenient excuse for selling. Overall, the losses in the indices were mild but a number of individual stocks, especially small-caps, took hard hits. Big-cap names, other than Google (GOOG) and Apple (AAPL), also had a hard time finding support.

In the bigger context, it isn't anything more than routine profit-taking, but the bears are ready to proclaim that the end is here. While that is possible, there is nothing to support such a view other than the same fundamental arguments they have been making all year. This market has consistently shrugged off those arguments but as soon as we have a day or two of selling, the bears rush to tell us that their predications are about to come true.

While I have taken precautions while this selling plays out, I'm looking forward to being a buyer as the market cools and works off overbought conditions. We should be building new support soon and plenty of interesting stocks can set up again.

If you are holding momentum names or speculative small-caps, you are probably getting hit. The key is to make sure you have a firm plan for cutting losses before they get out of hand. Capital preservation should always be your number one goal.

Have a good evening. I'll see you tomorrow.

Oct. 23, 2013 | 2:10 PM EDT

Watch Today's Close

  • It'll be a good indication of short-term market health.

The dip-buyers have had a few stabs at a bounce but haven't been able to take out the opening levels. Breadth isn't horrendous with about 2,200 gainers to 3,200 decliners and many stocks are off early lows but there aren't any signs that buyers are rushing back in. What has been notable about the market action this year is how aggressive buyers have been once there is a bounce.

By almost all measures the market has become a bit too overheated recently, so a correction is not only warranted but also not surprising. A pullback to breakout levels and basing action will be a good setup for strength into the end of the year. This action has done no injury so far to the market uptrend.

Even though I'm not anticipating a market top, I am in no hurry to reload longs. I'd like to build up Facebook (FB), SunPower (CSUN) and some solar plays but I'm not going to until the technical action improves.

The close today should be a good indication of short-term market health. If we can finish near the day's highs, it will be a sign that the underlying dip-buying is still strong. But a weak finish will be an indication that nervousness is creeping into the action.

Oct. 23, 2013 | 10:58 AM EDT

The Pressure Is On

  • But those predicting a turn in the market lose flexibility.

The crazy action under the surface yesterday indeed turned out to be an effective warning. The indices covered up poor action in big-cap momentum stocks, but the pressure is back this morning.

While it looked ugly in the first 30 minutes of trading, there are signs of dip-buying developing now. The key is holding intraday lows after a bounce. If the market starts to make lower lows later in the day, the momentum money will bail out quickly and help a downtrend to gain momentum.

I've done minor dip-buying of Facebook (FB) and SunPower (CSUN) and a couple of others, but I'm not confident that the bounce is going to hold. I want to leave plenty of room to make additional buys if key support levels are tested.

I notice Doug Kass is predicting that the market has seen its highs. He may be correct, but I always cringe when I see predications like that. I can understand the desire to make such calls, but I don't think they are helpful to traders as they rob flexibility. Predictions like this create what is known as confirmation bias, which Wikipedia defines as the tendency to favor information that confirms pre-existing beliefs or hypotheses. Once you make a big-market call like this, you have a vested interest in seeing it fulfilled. Your objectivity will likely be impaired as you seek evidence to support the prediction and it is likely that you will miss trading opportunities because of that closed mindset.

While we may see a downtrending market for the remainder of the year, I see no reason to make such a prediction. We'll just have to deal with the action as it develops and, right now, it is not looking good.

Oct. 23, 2013 | 7:45 AM EDT

Watch for the Dip-Buyers to Give it a Go

  • The question is whether they will stick around.

"More firm and sure the hand of courage strikes, when it obeys the watchful eye of caution." -- James Thomson

On Tuesday, while the media celebrated yet another all-time high for the major indices, traders were scratching their heads over the unusual volatility under the surface. At first glance it looked like just a continuation of the very strong trend that had been building for nearly two weeks. But the mostly high-beta leading stocks -- big-cap technology names -- were jerked around sharply and caused some consternation.

The overall market strength was primarily attributed to weak jobs report, which should help to push off any tapering of the Federal Reserve's bond-buying until next spring. The focus on macroeconomic news seemed to have awakened the algorithmic traders -- the computers drove the market sharply higher on the jobs news. But when Netflix (NFLX) then started to reverse its massive gains, baskets of momentum stocks were dumped and the market pulled back sharply. Once the computer programs had run their course, the dip-buyers inched in rather tentatively, which gave the indices some stability into the close.

We've seen some frothy action in the momentum names recently, so it isn't very surprising to witness bouts of volatility as the indices become extended. Even the chasers will be inclined to take some profits now and then.

The bigger question now is whether the action in Netflix was stock-specific -- a reaction to CEO Reed Hastings' ill-advised comments about the way the shares traded -- or whether it's an indication that the attitude toward highfliers is starting to change. Momentum traders don't go away quickly or easily, but with the gap-down market open that's developing this morning, it will be interesting to see how interested they'll be in buying the dip. Nothing has been more important to this market than the dip-buying support, and until that starts to erode, it will remain tough to be very bearish.

Meanwhile, the bears are full of big-picture arguments right now. It certainly isn't difficult to understand their logic when they talk about a tepid economy, the likelihood of more battles in Washington fairly soon and potential for a less friendly Fed at some juncture. But, while those arguments may sound compelling, they have been irrelevant and won't matter until the price action starts to shift.

I've been quite bullish lately, but the action Tuesday bothered me and is raising my caution levels. While it has generally been a mistake to be too negative too quickly, I've made some decent gains recently and am loath to give much back. I'll be playing things much more tightly and will err on the side of selling, especially if the action in the momentum leaders stays volatile.

Again, we're looking at a weak start this morning, and there's nothing exceptional in the earnings department so far. Watch for the dip-buyers to give it a go -- but the question is whether they will stick around.

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