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S&P 500 Near Key Levels: How I'm Playing It

The index has enjoyed 3 healthy bounces from the 200-day moving average this year.
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As we drift closer to the July 4th holiday, the market is drifting toward some key technical levels. If the S&P 500 continues on its current path, we could be in for some fireworks in the near term.

The S&P 500 has been trending higher for the past three months, forming a bullish channel over that time (parallel lines). Over the past week, the index has accelerated rapidly toward the bottom of the channel. Only a handful of points separate the index from a breakdown.

Just below the channel lies the S&P 500's 200-day moving average (red). The index has enjoyed three healthy bounces from that indicator this year. In February, the first contact led to a gain of 10.06%. April saw a bounce of 6.26%, and the May/June bounce saw a rebound of 7.46%.

It's notable that the cash index has only closed beneath its 200-day moving average once this year, on April 2. We could be just a handful of points away from another big bounce. Thursday, the S&P 500 saw a decent intraday rally off of the bottom of the channel.

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Source: TradeStation

On the other hand, we can't expect that moving average to hold forever. A clean break of the 200-day MA, and particularly a break below 2581 (green line), could lead to a fierce selloff.

How to Handle This Situation

Despite the negativity of the past few weeks, the channel is still bullish, and the index is still above its 200-day MA. This favors the bulls, and my first move will be to go long at the 200-day MA.

Which stocks would do well on a bounce? I'm looking at stocks that have weathered the storm of the past few weeks. Names such as Five Below FIVE and lululemon athletica LULU are good examples of stocks that are barely off their highs despite an 80-point drop in the S&P 500 since June 13.

What if the 200-day moving average breaks, and things get ugly? Transportation stocks have been weak recently, and some names in that sector appear ready to roll over.

For example, FedEx FDX has broken its 200-day moving average (red) and a major support level at $230 (black dotted line). It's already broken down, an indication that the stock is weaker than the overall market, which is merely flirting with a breakdown. Yesterday, FedEx closed at its year-to-date low.

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Source: TradeStation

FedEx is just one name in a weak group, and as such it may be a candidate for selling regardless of what the market does next. Since the situation could quickly turn from bullish to bearish, traders will need to be attentive and nimble.

At the time of publication, Ponsi was long FIVE and LULU.