Charts Say Sell Into a Rally

Despite some rough sledding early in Friday’s session, stocks rallied and by noon had hit their highs. Early in the session, the Dow Jones Industrial Average was off over 2% due to disappointment over the Federal Reserve Chairman’s remarks, a failure of GDP data to live up to expectations, and a flat consumer confidence number.

But the negatives didn’t stop bargain hunters from stepping into technology stocks, which started a run of short-covering that spread to many other depressed groups. The pop higher was led by Apple (NASDAQ:AAPL), which had been lower earlier in the week due to the resignation of founder Steve Jobs. And even though volume was fairly light at 1.1 billion shares on the NYSE, breadth was strong with advancers ahead by over 4-to-1 on both the Big Board and Nasdaq.

In other words, the market acted relatively strong in the face of bad news. This, plus a neutral Relative Strength Index (RSI) on the S&P 500, could result in a continuation of Friday’s rally even though the chart pattern argues against this conclusion.

SPX ChartTrade of the Day Chart Key

Symmetrical triangles, like the one seen on the S&P 500 chart, are continuation patterns that indicate indecision — in this case a three-week period of indecision due to a withdrawal of the public from a market that is in the hands of high frequency traders.

Normally, a pattern like this breaks in the direction of the major trend (down). But due to the currently unnatural source of trading (computer to computer), it could break on the upside and run the broad market back to the breakdown point at 1,260. Even in more normal circumstances, rallies back to the neckline break point are common in a bear market.

If a rally occurs and breaks through resistance at about 1,190, be prepared to sell stocks that you have avoided selling until now or take defensive action like selling calls or buying puts. Traders should aggressively short such a move. 

For one stock to short now, see the Trade of the Day.

Today’s Trading Landscape

To see a list of the companies reporting earnings today, click here.

For a list of this week’s economic reports due out, click here.

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