Smug market bulls are receiving their comeuppance. My watchlist is a sea of red, with tech stocks in particular bearing the brunt of the damage. But it’s small-caps that are catching my eye today. The iShares Russell 2000 ETF (NYSEARCA:IWM) is flashing oversold readings, and my inner contrarian is beginning to growl.
IWM was the first to roll over last month and may just be the first to bounce.
During bloody days like this, it’s always helpful to take a step back and view the bigger picture. The weekly chart below reveals the ascending channel that is still very much intact for IWM. Thus far, the past five weeks of selling appear to be nothing more than one more in a long line of pullbacks. Major support is looming near $160. Both the rising trendline (dotted black line) and old resistance (purple line) are lining up in this zone. Additionally, the 50-week moving average sits nearby.
So, while we may see a few more dollars of selling yet, I suggest using further weakness into the $160 area as an opportunity to deploy bullish trades.
For greater detail, let’s turn to the daily chart. I’ve labeled the same key support level displayed on the weekly (in purple) as well as a minor floor that formed back in June (pink). Adding further weight to the $160 area is the 200-day moving average.
The RSI is nearing its lowest levels since February confirming the gravity of how oversold the market has become. Past readings near here have preceded market rebounds.
Fade the Fear With IWM Bull Puts
Alongside the price slide, we’ve seen a rally in implied volatility. With option premiums now inflated, a host of short options strategies for small-cap stocks are suddenly appealing again. For those looking to buy the dip in the coming days, I like selling bull put spreads.
For example, we could sell the Nov $155/$150 bull put which rests well below the $160 support zone. The potential credit is currently 50 cents and represents a possible 11.1% return on the initial investment.
In timing the entry, consider waiting for signs that buyers are emerging. If selling pressure persists because of traders reducing risk ahead of the weekend, you might as well wait for Monday to pull the trigger.
As of this writing, Tyler Craig didn’t hold positions in any of the aforementioned securities. Want insightful education on how to trade? Check out his trading blog, Tales of a Technician.
