We have remained short since 1456 on Monday morning after going to cash over the weekend as a precaution.  Since then, the market has tested and broken through each of the channels we identified as offering potential support.

Moments ago, SPX tested the red channel mid-line at the same time it hit an .886 at 1435 of the most recent move up from 1430 to 1470.  We could get a bounce here that traders can capitalize on, while the potential for additional downside remains in place.

UPDATE:  12:25 PM

Our thesis has been that SPX rose at an accelerated rate, following progressively steeper channels on its way to 1474.  When it topped out, it then began a process of testing and breaking those channels.  The question is which channel will finally catch.

My favored target in this move remains the .618 retracement of the 1396-1474 move at 1426.34, though the white channel bottom might catch us just short of that around 1430.

SPX made a high of 1426.68 that started a little corrective wave on Sep 21, so that might help validate the .618 from a wave standpoint.

My only hesitation about covering our short there is the bigger picture, which argues for a tag of the .886 at the intersection of the bottom of the red channel and the largest white channel. It’s easier to see on a larger scale.

So, it boils down to whether the yellow or the white channel ends up holding (if either.)

It’s safe to say we should get a bounce at the .618, so the safe play is probably to take profits and play that bounce, going long with tight stops. While I believe we’ll get down to the .786 in time, the little white channel (as it’s currently drawn) doesn’t arrive there till about 1:30 tomorrow, so we might well back test something (the red channel mid-line?) before arriving.

That would be a 7 point bounce for traders — worthwhile enough.  While less active investors might prefer to set stops there around 1435.25 and let their shorts run.  Needless to say, breaking the yellow channel line would be a major event — so much so that we can expect bulls to put up a fight.

FYI, I show the smaller white channel bottom at 1430.17 (about equal to the Sep 26 low of 1430. 53 – another reason for a bounce) and the red mid-line at 1434.  For quite a while, I’ve thought that the nearly horizontal white channel could expand to incorporate the consolidation between Aug 6 – Sep 4.  It would make the white channel 85 points from 1474 to 1389 — a much more respectable reaction to a Bat Pattern completion after an 800-pt rally.

UPDATE:  1:25 PM

We bounced off the white channel line as expected (1430.64), rising very close to the red channel midline (1433.50.)  Now we get to find out whether the white channel should be expanded or not.  If you’re determined to ride a short position to the .618 at 1426.34, please use stops just in case the white channel is all the downside we get.

And, while I’m on the topic, we never really back-tested the broken pink channel line.  Our little white channel intersects there at around 1437 tomorrow morning.

I only see positive divergence on the 15-min and under time frame, so there’s no reason yet to expect anything bigger than that — other than the white channel bottom holding.

UPDATE:  1:45 PM

I’m going to go ahead and take profits on the short position here around 1431.50.  This is setting up as a decent bounce, and I’d like to participate.  If it turns into something more than a bounce at the yellow channel line, I’ll ride a long position for a while.  Please remember to use stops.

More in a moment…

UPDATE:  2:00 PM

Here’s what I saw that got me thinking… RUT is very deep into a falling wedge at the completion of a Butterfly (in purple) and a Crab (in red.)  While I think it also has further to go (probably 806-816 in the next week or so), it’s hard to imagine it not bumping higher from those three tells.

This is a smallish pattern, but it does argue for a decent bounce.

I have to sign off for the day — time to get on the road for the drive home.  My best guess is we’ll back-test the pink channel as high as 1437 very soon.  From there, the market has some decisions to make.

The 60-min RSI indicates further downside to the yellow channel bottom after a back test of the purple.  So, that would support the idea of a bounce to 1437 and retest of the bottom — maybe tagging 1426 in the morning intra-day, but that’s a bit speculative on my part.

Watch the dollar.  If it dips below 79.805, it has additional downside.  And, of course, if SPX breaks out of the little white channel, it has no doubt broken back above the pink channel and could easily rally another quick 10 points.

Above all, trade safe.  We’ve had a nice run in October — probably up 7% or so already.  These critical support levels mean higher risk.  Use stops!

I’ll post later tonight if it’s not too late.