Is SPY Ready For A Pullback?

After another week of new all time highs across many markets, I’m hearing from many of our trades who are asking is the market ready for a pullback?

As we work through our watch list of stocks and ETF’s that we trade, we are seeing overheated markets all over the place. This is especially true in the Nasdaq stocks like AAPL, AMZN, FB, NFLX, GOOGL. While it is true that overbought can stay overbought longer than anyone expects, we are seeing signs of a tired market.

Over the next few weeks, we will see earnings season kick into high gear.

Almost every stock on our watch list will be releasing their quarterly earnings. This could be the next catalyst to give us some better two way price action. The season kicks off next week with many of the financial stocks like BAC, C, JPM, GS releasing their earnings. With markets so overbought going into these earnings numbers, it will be interesting to see how much good news is already priced in.

Will good earnings numbers be enough for another leg higher?

Or will we see a sell the news reaction?

Next week will be big in giving us a clue as to the answers to these questions.

While we don’t expect or want a market crash, a healthy pullback would better set markets up for another leg higher. With no pullbacks over the last few weeks, traders have been forced to chase new all time highs with the hopes of the moves continuing even higher.

We don’t like to chase trades looking for outlier moves to continue.

We would rather see a pullback which would open things back up for us in both direction instead of banking on the grind higher continuing every day.

Why A Pullback Could Be Coming Soon

Going back into March, we were seeing over 80 million shares trade on a daily basis on SPY. Over the last week, it has been a struggle to hit 50 million shares traded on a daily basis. This has led to much slower markets intraday. In fact, the ATR (Average True Range) has dipped down around 4.50. This indicates slower trading conditions intraday and can often times happen towards the tail end of a move. 

We have also seen a contraction in volatility with the VIX trading down below 17 this week for the first time in months. When volatility gets sucked out of the market like this it can lead to a level of complacency typical of a late stage move on the upside.

With the market not pricing in any fear at the moment, it indicates the boat being loaded on the bullish side. When traders get leaning in one direction, it can often times lead the market throwing everyone a curve ball. We could very well see that happen in the near term over the next few weeks. 

SPY Support and Resistance Levels

SPY closed the week right up at the all time high at 411.67. Above this high and we will be looking for resistance at 412.00, 412.50, and 413.00. The big round numbers at 412.00 and 413.00 are often levels where price can stall out. These will be front and center should we get another move higher earlier next week.

On the downside should we get a pullback next week, the first area of support kicks in at 404.73 which is the 8 EMA on the SPY daily chart. We would expect the bulls to defend this level should we get a move down there. If that level breaks we will be looking for further selling down to the 20 SMA and 20 EMA on the SPY daily chart. These levels are sitting at 398.61 and 392.32. 

Stocks To Watch For Next Week

We continue to use more credit spreads than long calls and long puts in this slow environment. The credit spreads put the time decay in our favor and provide a more forgiving trade where we can still make money while the market is moving much slower.

Should we get price to confirm on the downside next week we would be open to adjusting this approach to include more long calls and puts. This would happen if we can get SPY to break the 8 EMA which we talked about earlier.

Our focus has shifted out to using more May monthly options at this point. We would be open to using the weekly options as well but prefer to go out a few weeks in time just to give us a little more time to stay patient on the trades.

With so many stocks overbought at the moment, we have been looking to sell call credit spreads which would benefit from a period of consolidation or even a pullback lower. Some of the stocks that are of interest to us going into next week include MSFT, NFLX, ATVI, AAPL, QQQ, and SPY. All 6 of these will be call credit spread candidates next week.

For more details on the trades that we are looking at for next week make sure you review the Weekly Recap Video below.

Weekly Recap Video

In this week’s Weekly Options Recap video we take a closer look at our Overnight Pop Trades from this past week. This includes our SPY trade that we closed out Friday afternoon as well as a new SPY trade that we opened up Friday afternoon that we will be closing out Monday morning.

We also take a look at the trades that are setting up for us going into next week. Take a look and let me know if you have any questions that we can help with. We will be back on Wednesday for our next Midweek Options Update. Mike@netpicks.com