Sellers were firing shots across the bow Thursday morning in the tech sector. With the Nasdaq down a fast 4%, mega-caps like Microsoft (NASDAQ:MSFT) took it on the chin. The counter-attack was a long time coming and is worth discussion. After breaking down the breakdown, we’ll take a closer look at MSFT stock to see where the best buy points are.
Veteran traders and chart readers shouldn’t be surprised by the pullback. As illustrated in the chart below, conditions were ripe for profit-taking. That doesn’t mean anyone knew the date or the location of the retreat ahead of time, though. That part is always a mystery. But there’s no denying the froth was rising to levels that justified pulling in the horns.
The Icarus Pattern
The PowerShares QQQ Trust (NASDAQ:QQQ) flashed two warning signs earlier this week, hinting that a pullback was nigh. First, it closed outside of the upper Bollinger Band for the second day in a row Wednesday. While not a guaranteed death knell, prior episodes of back-to-back sessions north of this line resulted in the rally cooling off.
Second, Wednesday also saw a sharp uptick in volume. When participation swells at such overbought levels, it can signify the last gasp of a dying rally. Like the mythological Icarus, tech stocks finally got close enough to the sun. We’re witnessing the wax melting as I type.
It remains to be seen if the bear raid grows into a larger trend reversal. For now, it’s a much-needed pullback and shaking of the trees, nothing more.
Enter MSFT Stock
It is against this tech reversal of fortune that we must judge MSFT stock’s decline. Wednesday, the sultan of software held up like a champ. It triggered a bull flag pattern and closed near the high of the day. Unfortunately, Thursday morning’s 5% whack — and the ultimate 6.29% loss for the day — is completely upending the setup. We’re already pushing below the low point of the flag, resulting in the first support break in awhile. Thankfully, it’s a minor pivot and doesn’t change the overall trajectory of the intermediate-trend.
We’re still well above both the rising 20-day and 50-day moving averages with potential support zones galore looming beneath. The first area of interest is $217, just below Thursday’s close. It marks the resistance level that kept a lid on MSFT stock in July and August. If the principle of polarity holds, this old ceiling will become the new floor. The 20-day moving average also sits in this area, providing further reason for buyers to defend it.
Even if $217 doesn’t hold as support, the 50-day moving average and multiple support pivots come into play after that at $210 and $203, respectively. Ultimately, it’s breaking the 50-day moving average that would sour my outlook. It’s hard to look too far forward, but these are the levels that are worth watching to see if a quality buy-the-dip setup emerges.
Distribution days like Thursday tend to linger. The after-effects of bulls finally getting punched in the face likely means volatility remains elevated for a spell. Expect it.
Options Trade Ideas
Because I don’t expect a rapid snapback from today’s bloodbath, I’m avoiding aggressive directional trades like long calls and bull calls. The smarter play is using the bump in implied volatility to sell out-of-the-money bull puts. It provides a much larger margin of error that still allows you to profit if MSFT stock bounces around for a bit.
It might take another down day or two, but if you can get at least a 10% return selling put spreads in October down around $185 or $180, then consider it.
On the date of publication, Tyler Craig did not have (either directly or indirectly) any positions in the securities mentioned in this article. For a free trial to the best trading community on the planet and Tyler’s current home, click here!
