The S&P 500 hit another bull market and all-time high this week, but not all index components rose in tandem. An expanding group of laggards is heading the other way, grinding out downtrends that are now setting off preliminary short sale signals. These plays could generate opportune profits in coming weeks, especially if the broader market turns tail and enters a late-summer correction.

Many traders try to pick tops in strong uptrends when choosing short sale candidates, but those buying impulses feed on this weak-handed mentality, taking each batch of short sellers and squeezing them into oblivion. In turn, those upticks draw the next wave of momentum buyers off the sidelines, generating a positive feedback loop that can lift stocks well above logical price targets. (To learn more, check out: Rules and Strategies for Profitable Short Selling.)

A more reliable approach sells breakdowns in the weakest stocks or waits for pullbacks following big declines. In both cases, short sellers access steady tailwinds of deteriorating sentiment, poor technical positioning and nervous shareholders looking to exit positions at any cost. It also allows those positioned on the short side to sleep at night, confident that the next session won't start with an unexpected catastrophe.

 

O'Reilly Automotive, Inc. (ORLY) stock posted an all-time high at $293 in July 2016 and turned lower, carving the next stage of a topping pattern that broke to the downside in May 2017 when it sold off through support at $250. The decline eased into a descending channel, losing ground at a modest pace into July 5, when it plunged in a vertical decline that relinquished more than 41 points in a single session. (See also: O'Reilly Beats on Q2 Earnings Estimates, Cuts Outlook.)

The stock bottomed out at $169 three sessions later, giving way to a recovery wave that has drawn the outline of a bear flag pattern. The bounce turned south at the 50-day exponential moving average (EMA) last week after reaching within 10 points of filling the gap, generating a preliminary short sale signal that predicts a decline to the downtrend low. However, a final buying impulse to $220 is possible, with that level offering a more favorable risk/reward ratio.

 

Shares of The Mosaic Company (MOS) returned to the 2008 bear market low near $22 in the first quarter of 2016 and bounced in a recovery wave that stalled in the low $30s about two months later. A 10-month consolidation pattern tested the deep low in October, ahead of a January 2017 breakout that attracted aggressive selling pressure and a reversal that has now reached long-term support for the third time. (For more, see: Mosaic Shares Tumble on Disappointing Fertilizer Guidance.)

An old market expression insists that there's no such thing as a triple bottom because three tests at support are more likely to trigger a breakdown than a new uptrend. In addition, on-balance volume (OBV) entered an aggressive distribution wave in February 2017 and is now testing the 18-month low, signaling that bottom fishers are abandoning losing positions. This loss of sponsorship could presage a breakdown that drops the stock toward deep support at $12.50.

 

The Kroger Co. (KR) stock topped out at $42.75 in December 2015 and ticked lower through most of 2016, building the next stage in a head and shoulders topping pattern that broke to the downside when the stock violated the neckline in June 2017. A perfect storm of bad news triggered the decline, with the company lowering guidance just one day before Amazon.com, Inc. (AMZN​) upended the supermarket world when it announced the acquisition of Whole Foods Market, Inc. (WFM). (See also: Kroger CEO Not Fazed by Amazon-Whole Foods Tie Up, Shares Pop.)

The stock bottomed out on June 16 and eased into a bear flag that is now testing the underside of the 50-day EMA at $25. It filled the lower of two gaps last week and is unlikely to trade higher than $27 before aggressive sellers return in force. A solid entry plan will be to watch the weekly stochastics oscillator, waiting for a crossover at the overbought level to enter or add to existing short sales.

The Bottom Line

The weakest S&P 500 components could offer the strongest short sales in coming weeks and months, especially if the broad market enters a correction or downtrend. (For additional reading, check out: Stocks Face Miserable August as Correction Looms.)

(Disclosure: The author held no positions in the aforementioned securities at the time of publication.)

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