Monday’s Stock Option Trading Strategy!

I see tough option trading conditions ahead. The market is desperately trying to find support at this level. Last Friday, it looked as though we might get a reversal from the early selloff. Financial stocks were bouncing and by midday, the market had recovered most of its losses. After spending a brief period in positive territory, the market sold off sharply right into the closing bell on Friday. That price action left us with one of the worst weeks in five years. The SPY has broken support levels (18 months trend line, the 200 day moving average, six-month horizontal support). In light holiday trading, the market is trying to work its way higher. As usual, there are subprime rumblings this morning. There is a chance that the credit rating will be lowered for Countrywide and E*TRADE has mentioned that it might have additional write-downs. Financial stocks are taking the news in stride and they are trying to rebound. This is lending support to the overall market. It is difficult to tell if a legitimate support level has been found, or if this is just a short covering bounce. Last week, tech stocks were hammered. Until recently, that was an area of strength. It seems as if there are no longer any safe havens. Commodity stocks are down today and that was another one of the strongest sectors. Many of the heavy equipment manufacturers have been drifting lower and that strength is no longer there as well. The overall market has a very weak feel to it and I am not getting the sense that we will see a large year-end rally. It is likely that certain stocks will perform well going into year-end, while others decline. The market is in a flux and the volatility has increased. Until we see bona fide signs of improvement in the financial sector, we can expect choppy trading. I have been calling for a year-end rally and I have been expecting prices to hold up well. I was surprised by the late decline last Friday. We are seeing a nice rebound today; however, last week's damage will take a while to repair. In the short run, we need to see more than a one day bounce. The market needs to string together three or four days of positive price action before it can build any kind of momentum. For today, upside momentum has been established and I'm expecting the market to continue to grind higher throughout the day. If most of the gains can hold in the last hour, there is a chance that tomorrow's open will also be positive. My safety nets (tech, commodities) have been removed and I am reluctant to trade this market. Major technical damage has occurred and I am not sure which way this market will swing. That is a telltale sign to lay low.

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