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It's not a question of if, but when

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Stocks continue to suffer some downside action as depicted by the major market averages on the heels of key technical support broken yesterday in the Dow Industrials (INDU) and S&P 500 Index (SPX.X) at their respective 9,800 and 1,045 levels. Both are following through to the downside today.

This action has some bulls wondering if the markets will ever turn around. The question shouldn't be "if" as we've seen two nice bullish rallies in the S&P 500 so far this year. The question really is when.

I wish I could give an exact date, but the internals hint that the S&P 500, what many equate to "the market," isn't going to see a sustained rally any time soon. Yes, there will be some bounces as shorts come in and lock in some gains, but the internals deteriorated enough yesterday to now have many institutions playing defense in their portfolios.

S&P 500 Bullish % Chart - 2% box

Yesterday's "external" damage had the SPX itself breaking the 1,045 level we were monitoring for potential support, but the S&P 500 Bullish % ($BPSPX) gives us a quick look and understanding that its not just the outward appearance of the SPX that is looking ill. The internals show that 57.6% of the stocks in this market currently show a supply/demand "buy signal" on their charts and have this market reversing into a "bull correction" status.

This is now a furthermore defensive market posture than that found back in early April (red 4) when the S&P 500 reached an "overbought" level of 76% and then reversed lower on its Bullish % chart to 70% and "bear alert" status. That market condition actually alerted bears to a pending "bear confirmed market" that a reading of 56% would achieve.

Over the years, I've witnessed this type of action time and again. The NASDAQ-100 Bullish % ($BPNDX) has been the more volatile bullish % and usually reverses lower/higher first, then the S&P 500 is follows.

In essence, just like my "snake/inchworm" analogy, the NASDAQ-100 bullish % ($BPNDX) is the first to move a particular direction and then the broader S&P 500 Bullish % ($BPSPX) follows.

For now, market conditions are weakening as depicted by the bullish % indicators.

It's important to understand this. Often times, the market indexes will be impacted (bullish or bearish) by just a handful of stocks that can give the perception of market weakness/strength as the market averages are all weighted.

However, the bullish percent charts are "confirming" that it is not just a couple of stocks or a few stocks that are seeing selling now. More and more stocks are beginning to violate past levels of support (demand levels) and signals that buyers are really starting to dry up.

In today's 11:00 Update, I talked about the 10-year YIELD ($TNX.X) hovering right at the 4.967% YIELD level. Current trading is at 5.00%, so we've seen some selling in this bond in the last 2-hours, perhaps stemming a more potent downward move in stocks today.

For the bullish trader, this is very important to understand. Yes, there will be some stocks that "buck the trend" but it is not a "high odds" probability that stocks are going to find buyers. Thos with the "higher odds" of finding buyers are stocks that have shown bullishness in the past couple of months and have pulled back to a level of support. To me, a "pull back" isn't a 1% daily decline, but a 5-8% decline that has trended lower over a two-week period.

For bearish traders, you will easily begin to find more and more stocks breaking down. For you, it becomes important to ascertain risk reward from the point and figure charts. How much potential downside is there to a stock? What is its bearish vertical count? Is the sector that the stock is associated with under any type of accumulation, or is it under a greater degree of distribution than the market (as depicted by the S&P 500).

One way to ascertain this information is to use the relative strength charts and techniques I've tried to teach.

Option Traders!!

Option traders should be cognizant that option premiums on the more volatile NASDAQ stocks that get whipped around by market maker positioning are seeing higher option premiums.

If you're not aware of this now, you may be after a stock or index makes the move you thought it would, but you don't see your option perform to your liking as volatility drops. This will be more prevalent in call options on NASDAQ stocks.

One strategy that I will turn to for option trading is to look for listed stocks on the NYSE. Many of these perceived "boring" stocks will not have their premiums jacked up and can offer better trading. Something to think about when browsing the put or call play section of the site.

Earlier today in the market monitor, I profiled a bearish trade in shares of Microsoft (NASDAQ:MSFT) $49.89 +0.95% at the $50.25 level. I didn't profile an option for those reasons just mentioned above.

Jeff Bailey
Senior Market Technician
Option Investor

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