So far, so good on our latest buy signal. However, in the S&P 500 futures contract, we stopped out of our remaining half last night at 3915. If you are in SPY options, that was not a possibility—more on that in a moment.

For now, I got my coloring books out this morning and drew what I think the market is trying to do here. As I mentioned yesterday, a small Head and Shoulders pattern often forms part of a larger Head and Shoulders pattern. Here, after completing our topping pattern over the last week, we now see a potential reversal pattern forming. We saw a smaller Head and Shoulders reversal pattern forming yesterday, which now may have formed the head of an even larger pattern. If so, I have laid out the probable path, and I am looking to redeploy back into the market around the 3888 level, give or take five points.

The other possibility is that the market peaked again last night, and the correction will continue to new lows. I don’t think that is probable for all the reasons I have laid out the past few days. But I have to keep an open mind.

In allowing for the latter possibility, if you are holding options, at no point should you let your options go into a loss if you can manage it? Your mental stop, at minimum, should be break-even. Of course, you cannot control what happens in the overnight markets – hence why I prefer futures. Other than break even, your mental SPY options stop should be 375.50 for now.

For today, the overnight correction is mild, and Russell futures are still rallying. I will assume that buyers are still in control unless we were to take out the overnight low and start to gain some acceptance in the single prints of yesterday’s regular session distribution. Where the value area (70% of volume) develops today will be of paramount influence on my outlook.

Even if we take out the overnight low in early trading, 3775 is the line in the sand that keeps this rally intact – at least from the Head and Shoulders reversal pattern perspective. In addition to the usual quartet, key levels to watch today include yesterday’s halfback at 3891.50, the Value area low at 3876, and an untouched volume point of control from Tuesday at 3844.

The left shoulder took a few days to form. Forming the right shoulder could eat up a few days as well, perhaps most of today and tomorrow.

Also, remember that the S&P 500 is a march in 50-point increments. Most of the struggle is about maintaining (or surrendering) these levels. So the market conquered the 3900 level yesterday and should not easily surrender it, at least on a closing basis. It follows then that the battle today is holding the 3900 level. If the market fails, it will then congregate around the 3850 level. If 3900 holds, the next battle is to conquer 3950. 

If you take all your indicators off your chart, then give yourself a couple of years of data to review, you can step back and see that the market congregates around each of these 50 point levels as it progresses forward or corrects.

A.F. Thornton