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Why stocks are ready for a pullback

Stocks have been set up for a near-term pullback that could give a year-end rally fresh legs into the new year, say some technicians.

John Kosar, chief strategist at Asbury Research, has been expecting a sell-off before Thanksgiving, and he says this could be it. The S&P 500 was under pressure Thursday, as oil prices fell. The index slid below 2,064, its 200-day moving average.

"We're up against a lot of overhead resistance," he said. "We had a nice move off those lows from August and September. We had a pretty good sell-off in high-yield bonds. What that effectively did was drive those yields up. Generally if you have widening corporate bond spreads that usually spooks the stock market, and that was one of the things I was looking at."


Kosar said he follows the SPDR Barclays High Yield Bond ETF JNK, which is at its lowest level since early October. He said another factor is the market breadth.

"Traders are waiting to see if the market is going from bending to broken. We just had a controlled pullback but the question is does it get deeper and take away hopes of new highs in the S&P before year-end?" said Scott Redler of T3Live.com. "We just retraced about a third of the move (off September lows) which has been deemed healthy, but any more than that could mean the market is losing momentum and bulls are losing confidence."

Redler said the market has lost important leadership and pointed to the drop in Apple this week. "It took some of the wind out of the sails when it gapped down and didn't recover," he said.

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Oil is also a negative. West Texas Intermediate was down 2.6 percent Thursday at $41.80 per barrel, and has fallen more than 7.5 percent in the past week.

"Oil has become a headwind," Redler said. "It could get very uncomfortable if it happens to break $40."

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Kosar said another warning sign for stocks is that investor complacency is high, and the VIX, which went over 17 Thursday, has been rebounding from an Oct. 28 test of 12. That level also is associated with peaks in the S&P 500 over the past two years.

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He said the next level to watch on the S&P is 2,021, the intermediary high between the two bottoms set Aug. 24 and Sept 29.

"This is a very logical place to have a stall for all those reasons. Let's say we hypothetically get back down there. Those are levels that are the most obvious on the charts. I think what investors need to do is take the market's temperature as we hit those levels," Kosar said.

Paul LaRosa, chief technician at Maxim Group, said the market very well could be in for a short-term pullback.

"It would be healthy as long as we stay above these levels — the round number 17,000 on the Dow and 2,000 on the S&P," he said. "That's a normal and healthy correction. That's definitely a possibility."

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LaRosa, like Kosar, said the market could then be setting up for a year-end Santa rally.

Wall Street's strategists are divided over how much of a year-end rally the market could see, with some saying earnings, the economy and the Fed interest rate hike could contain any gains. While others see a higher year-end, another group sees sideways trading.

"My gut feeling is overall things look OK. They don't look super, but they look OK. My inclination is whatever pullback we get out of here, I'm looking for a buying opportunity," Kosar said. He said the Fed shouldn't be an issue for the market if it raises rates on Dec. 16 because the economy appears strong enough to handle it.

"By year-end, we could challenge or exceed the 2015 highs on the S&P 500," Kosar said. "Seasonally, the strongest month of the year is December. January is the fifth strongest so then you get a tail off and the one that's weak is February. That's the weakest after September."