In the first half of this week the market treaded water while it waited for a dovish FOMC statement. The Fed will maintain a 0% interest rate policy for the next couple of years, perhaps longer. They will let inflation rise above the 2% target and they’ve implied that it is time for fiscal stimulus. Monetary policy is as “loose” as it can be. The FOMC reaction was bearish and the S&P 500 closed on its low of the day. This morning we are seeing follow-through selling and major technical support will be tested on the open. Dip buyers will be flushed out and quadruple witching could trigger sell programs.

There isn’t any incremental news to justify this market drop. This is profit taking plain and simple. After the initial market drop there were two scenarios that I’ve been highlighting. A brief bounce followed by immediate selling suggests another leg lower and that is the one that is playing out. I believe that SPY $324 could be tested and we might even drop to the 100-day moving average before we find support.

Low interest rates and the possibility of a stimulus bill have kept buyers engaged. Rich valuations (P/E of 23) and a sluggish recovery due to the virus have sparked profit-taking. The price action during the last two weeks would ultimately reveal which side has the upper hand and now we know. It’s time for nimble traders to take short positions.

Swing traders should be in cash. If you have heeded my warning you can watch calmly from the sidelines while this storm rolls in. Instead of managing losing positions you will be focusing on opportunity. Option bid/ask spreads will widen and getting out of bullish trades will be a nightmare for traders today. We will continue to watch for signs of support and this market decline will reveal stocks with true strength. Warren Buffett once said that when the tide goes out you can tell who’s skinny dipping. The fakes will be obvious and we will be ready to scoop strong stocks once support is established. After the close yesterday I recorded my Weekly Swing Trading Video. The futures were up 5 points at the time. I didn’t know that they were going to be down this much overnight and it didn’t matter. The warning signs were clear to me and I was steadfast in my decision not to take any new positions. We are currently in a cash position – most traders struggle with this concept. Use this time to identify relative strength and get your wish list together.

Day traders should focus on the short side. Prices will be all over the board in the first hour of trading. On these big drops we typically see support in the first 30 minutes. Buyers will try to nibble at SPY $332 and that is the 50-day moving average. A brief bounce (20 minutes) with immediate selling would suggest that a big drop is coming. This would also lead to a bearish trend day. If the bounce lasts more than an hour we are likely to make a new low for the day, but the selling pressure will be relatively contained. The most damaging price action for longs would be a steady drift lower. That would suggest that the selling pressure is so heavy that the market can’t even stage a bounce. SPY $332 is a key level and it will be tested right out of the gate. We have seen support there three times and we will use that as our guide. If the market is below that level after an hour of trading we will see heavy selling.

A steady drift lower would trigger sell programs and quadruple witching will fuel the momentum. Choppy trading action would keep those programs at bay today. There is a very good chance that we hit and “air pocket” today and that the S&P futures are down 100 points or more.

Support is at $332, $327, $323.50 and $317.25. Resistance is at $342.50 and $337.50.