More Downside

We are getting a relief gap up from oversold conditions on the scary Friday close, with people havin August flashbacks.  Of course, to thwart the hopes of the scared, the market opens with a strong gap up and we are back in no man's land.  Not a good enough level to buy, even after a brutal selloff, but not enough of a bounce to short with any comfort.

It is usually much easier to try to play reversals in these oversold markets, just because it is easier to recognize a fear point than a greed point.  What I mean by this is that when you see the VIX and put/call ratios spiking, that tells you the downside is limited.  We have the put/call ratios spiking, but the VIX is still relatively calm, at 27 considering the relentless selling.  If we can get the VIX above 30, and the S&P closer to 1870-1880, that will be a very good spot to get long for a move back up towards 1980.

Recognizing a greed point is harder because the bounces are much more variable in size and length than the selloffs.  Sometimes in a more bullish environment, you can get bounces that last for 5 or 6 trading days, which can be killers for early shorts (November, December), or they can be 1 or 2 trading days, which can be quite profitable for early shorts.  I really have a hard time seeing a big bounce of 5 trading days but it is something that cannot be ruled out.  That makes it tough to put on size on the short side with conviction, even when the trend is down, just because of the short squeeze factor.

With the gap up today, and the distance that we are from any kind of consolidation points (1980-2010), the market should take a pause and consolidate around these levels, of SPX 1910 to 1940, for at least a day.  I doubt that is a long consolidation.  After this consolidation at this new lower level, I expect more downside to the final destination of 1870-1880, which should happen this week.  That is the normal and most likely scenario.

If we end up with a more bearish scenario, which is much less likely but definitely possible, then you can consolidate at that new 1870-1900 level and then push down even further in an all out panic move to the October 2014 lows of 1825, probably by the end of the week or the beginning of next week after the MLK holiday.  Remember that in 2008 you had one of the most brutal back to back gap downs after the MLK holiday post opex, where fund managers had to hedge by selling futures like mad, as the puts in January had already expired.

Any attempts at upside today towards ES 1930 should be easily repelled by the bears.  Remain with a short bias till we break 1900.