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Tickers in this Article: DIA, QQQQ, SPY, IWM
One week after the markets decided to break higher, they promptly began a pullback and retraced to their starting point. Interestingly enough, the U.S. dollar bounced higher as the markets continued their inverse correlation to the currency. Most of the indexes have now pulled back to close last week's gap higher and are currently near their 20-day moving averages. Now that the markets have pulled back to a possible support level, the next move will reveal whether market participants still have an appetite for buying weakness.

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The S&P 500, as represented by the S&P 500 SPDRS (NYSE:SPY) ETF, steadily stair-stepped lower the entire week and ended back where it started before last week's breakout. The $119-$120 area will be the first level for traders to watch as a possible support level. This was the prior consolidation level and happens to also coincide with its rising 20-day moving average. If buyers can't defend this level, it's possible that SPY will return to test the $115 level. While SPY could easily enter a pullback to those levels and still be considered in a healthy uptrend, it would introduce the possibility of steeper reversal from a failed breakout. (For more, see The Anatomy Of Trading Breakouts.)


Source: StockCharts.com

The Powershares QQQ ETF (Nasdaq:QQQQ) is currently seeing its first real pullback in several weeks. QQQQ also gave back last week's entire breakout and is testing its rising 20-day moving average. QQQQ dipped below this average on Friday, but managed to close back above its average by the end of the day. QQQQ remains well above its prior breakout area near $50 and was already extended in comparison to the other ETFs. The $50 area is a logical place to look for support if the markets do enter a deeper pullback as this was also an important pivot high from April.


Source: StockCharts.com

Unlike SPY, the Diamonds Trust, Series 1 (NYSE:DIA) ETF did manage to hold above its prior base despite retracing last week's entire move. DIA had a clear consolidation level that may act as support in the near future between the $110 and $112 levels. DIA is back to the top of the small consolidation leading to the breakout and could find buying support here. A break below $109-$110 would be cause for concern as it would trap a lot of buyers counting on a breakout.


Source: StockCharts.com

After lagging the other market index ETFs the past several weeks, the iShares Russell 2000 Index (NYSE:IWM) started to show hints of relative strength this week. Notice that while IWM did back away from resistance near $74, it managed to hold above its gap from last week. Volume also declined on average from prior weeks, which is a healthy sign. However, the $74 level continues to be a stubborn spot for IWM bulls and remains the key area to watch. A move above this level would be very bullish for the markets.


Source: StockCharts.com


Bottom Line
While it may be disappointing to some that the markets pulled back after breaking out last week, many stocks were already quite extended. Corrections are healthy for the markets and until more important support levels are broken, the benefit of the doubt should remain with the market bulls. Traders should also continue to monitor other markets such as the U.S. dollar and the precious metals as the correlation to the markets with these products is very high right now. While the bulls are likely to remain in control, traders should be cautious; the markets will likely need more time to absorb recent selling pressure. Once the markets stabilize, they are likely to produce a great trading opportunity into the end of the year. (For more, see Risk Management Techniques For Active Traders.)

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