Market Gaps Down and Bounces Back

I'm incredibly short on time this morning, but things are settling down for me. I want to give you a heads up, watch for a possible short term capitulation with a gap and bounce today. The ISM report was very good considering the economic conditions. When I have more time I will give a full report on what happened and what to expect. As of right now, I'm still holding my call positions because they are all 1/3 to 1/2 size positions and I'm looking to add to them as long as the trend doesn't change. What I don't want to do is to sell on what I think is going to be a gap and bounce today.

9:15 am MT: Every news headline I read this morning is doom and gloom, which increases the likelihood of a bounce after the bearish gap this morning. CBS Marketwatch was my favorite: "Bear Market: It's Now Official" the headline screams. Yahoo Finance stated that the reason the market sold off (or gapped down) this morning was the ISM report. Yahoo got it WRONG, but then again, news organizations, analysts, and educators are usually wrong anyway, so that's nothing new.

Here's how it REALLY played out this morning:

This was first reported by the New York Post:

Merrill Lynch all but hung a "For Sale" sign today on its 20 percent holding of Bloomberg LP, the financial information company.

Talking to Wall Street analysts about the company's abysmal third-quarter results, CEO Stanley O'Neal and chief financial officer Jeff Edwards said they would be looking hard at possibly selling some of their "non-core assets." No specifics were provided, but Bloomberg would definitely have to be labeled non-core.

Not surpisingly, Bloomberg didn't report even one tiny thing about that little bit of news.....The futures were down hard this morning because the concern among traders was that MER was going to join LEH as the next potential Bear Stearns. As always, traders sell first and ask questions later. The futures actually spiked up when the ISM report came out at 50.2 versus the 48.6 expected. So the ISM was a positive for the market. Now, traders are picking apart the ISM and certain components are not as pretty as they seem, like the Prices Paid component which shows (surprise surprise) inflation. All in all, the ISM report was actually pretty good. Think about it this way, would we have all preferred that the number was a 44.5? Would that have made the market feel better? Would we feel more comfortable with the economy if the report came in at 39.7, or 32.3?

As it is, there is tremendous uncertainty out there, especially in Financials (I continue to be amazed, but not surprised by the sheer greed and irresponsibility in that sector as a whole). The market is overcooked enough short-term that I'm not inspired to play puts. The market is uncertain enough that I don't want to play calls. I am going to hang with the small positions that I have and see what happens today. But overall, I suspect that I won't find much to that I really like for trading today. I will go up and down my watchlist a few times and see. The IT trend is down, the ST trend is in stasis, and the market is not selling off like it could have this morning. We shall see what the rest of the day brings. There just may not be much to do until the market resolves itself on the short term.

9:30 am MT: I did stop out of MOS for a $760 total loss, which wasn't much (less than 1% of my account). I'm still ok with the trend on everything else. I'm only holding the equivalent of two call trades right now, spread out across 5 stocks. I'm going looking for puts, but I suspect that I won't find anything that I like.

10:00 am MT: I stopped out of the last bit of the CLF calls for a total loss of $540 on the trade. I don't like the selling in Steel right now. I also stopped out of AGU for a total loss of $900. So I continue to cull and watch. I'm still working my way up and down my watchlist.

10:20 am MT: with the market continuing to fade, I added some Bear Call spreads to my Iron Condors on the DIA, SPY, and IWM. I sold (to open) the July 118/119 BCS on DIA for .11 cents. I sold (to open) the July 134/135 BCS on SPY for .08 cents. And I sold (to open) the July 72/73 BCS for IWM for .11 cents. If the market takes a big leg down from here and goes through the low end of my Iron Condors (the Bull Put spread side) then I will add another set of Bear Call spreads to continue to offset my possible loss.

10:25 am MT: the market is selling again, so the probability of a gap and bounce is fading away with the market.

11:05 am MT: I stopped out of the CNX calls for a 2.80 loss on a half-sized position. I'm currently only holding a half-sized position on CF, which is still in a Bull Flag, and a 1/4 sized position on DO, which may collapse back into its base. I'm still hunting around for puts, but I'm not super excited by what I see. If I do something, it may be on the index ETF's. I would rather get a market bounce for a few days before I do puts, but the more we sell in a straight line, the riskier the puts become, even on a bounce. It may be that we have some climactic selling, but that's going to be a real nimble play. For now, I'm still watching.

12:15 pm MT: I've been watching the gap and bounce on AAPL and RIMM all day. I think they have the potential to be a litmus test for the market today. The market has come back a bit intra-day, so we continue to not get the climactic type of short-term selling so many pundits predicted. A lot of sloshing and gyrating is going on today, so once again, I'm not thrilled about adding any new positions, whether they are calls or puts.

1:15 pm MT: I nibbled on some AAPL calls on the big Bullish Engulfing pattern today. I will add to the position on a pullback late in the day as long as it holds above 172.

1:35 pm MT: I picked up more AAPL calls, and I picked up some CELG calls. I also like how the Chemicals have come back, especially APD and CF. Some other interesting bouncers: FLR, OXY, and SII among others.

1:40 pm MT: I picked up some APD calls. These are mostly nibbling, but I'm getting a little more of the AAPL that I want to sell into any continuation tomorrow (Thursday by the latest).

2:00 pm MT: Market Wrap: I speculated that the market had a decent chance for a gap down with a bounce back. The MER news bogey was not a good reason to sell Tech, Chemicals, or any other sector that wasn't named Brokers. But traders actually sold those other areas harder, which was a pure Fast Money knee-jerk reaction. Big Money came in and supported the market early in the day after the gap down, and again on the 2nd fade intra-day. I think the ISM finally won out over the bunglings, greed, and raw stupidity of the Financial sector. All the major indexes bought right into the close. The SPX finished with a very nice bullish Hammer. The Dow had a decent, but smaller bullish Hammer, and the Naz had a hybrid Piercing Line/Hammer candlestick.

Here's why I was a call buyer before the close: The last five bullish Hammers of this nature on the SPX were on February 11, February 22, March 4, March 13, and March 17 (the 3/17 Hammer was in the exact same spot as the Hammer today). Of the five Hammers, the first two led to very nice two-day upswings and the fifth led to a big one-day upswing. The other two were failed signals. So the market has a 60% chance of a bounce up off the Hammer today. And if we get the bounce, it should last about a day and a half, which fits right into the Thursday mid-day time frame that I would expect selling to come in on any mid-week upswing. Since the market continues to be squishy as it rides in a downtrend, and since we get the Employment Report Thursday before the open, I'm not loaded up on calls (as usual). And as always, if we get some strong moves up tomorrow, I will look to lock some of the calls down ahead of the Employment Report.