Trade Idea: Market Climbing Into Short-Selling Territory

Stocks have staged a dramatic rally from very oversold conditions this week. The S&P 500 is now easing back up near the 1,250 level. Currently, the S&P is trading at 1,238. If the market can make it to the 1,245-1,250 area in the next couple of days, it may be a good place to enter into short positions once again. If the rally is going to fail, it will likely fail between 1,250 and 1,260. If you pull up a chart of the S&P 500, you will see that the S&P has made two successive lower highs since topping out after the historic October rally around 1,285. If the S&P puts in another lower high, it could lead to a large sell-off as traders and investors get discouraged about the prospects of a year-end rally. The obvious level for this most recent move to fail and reverse is right at 1,250, which would mark a third successive lower high. This level has also been very important in 2011. Between January 1, 2011 and the end of July, the S&P created a large head and shoulders top with 1,250 serving as downside support. Once this level was breached over the summer, stock prices continued to cascade as large investors were using this level as their "line in the sand" and sold once it was taken out. Since this summer, the S&P 500 has not been able to hold above 1,250 for any considerable period of time. Bearish traders who are looking for a favorable risk/reward entry point on the short side may get it in the coming days if the S&P makes a push towards 1,250. There are a myriad of instruments that traders can use to put on such a position. The possibilities include shorting S&P 500 E-mini futures contracts, shorting the SPDR S&P 500 ETF (NYSE: SPY), or buying a leveraged inverse ETF such as the ProShares UltraShort S&P 500 ETF (NYSE: SDS). Another option would be to pick a particularly weak sector, such as financials, and going short an ETF such as the Financial Select Sector SPDR (NYSE: XLF). If this market rolls over again, it is likely that financial stocks will quickly be back in the cross hairs.