The dramatic reaction by the market to the upside after Friday’s jobs number, ironically, seems to have brought out even more pessimism on the part of many traders. Indeed, we are seeing quite a few of the hotter stocks of late become extended. As such, we enter next week with many on watch for a dramatic downside reversal.

Instead of embracing the case for a major top, though, my focus continues to be on staying constructive with this much-improved market, without becoming complacent. Inside 12631, I locked in a fair amount of winning trades and profits on Friday into the market’s strength. With those profits, I am putting in the work over the weekend to see if there are stocks setting up behind the leaders that are not yet extended. Hence, the “lock and roll” concept, which I discussed in greater detail in this post last week, could easily be in play next week.

The scenario that I do not see being discussed much is one where the senior indices work off extended conditions through time rather than via abrupt drops, all the while a growing number of individual stocks continue to work well. Here are a few long ideas that fit that description. Members of 12631 should check inside the service’s main blog for even more ideas.

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When the market sees a steady overall bid pushing it higher, like it has in recent weeks, the natural tendency for many traders is to acknowledge the progress made by bulls, but to prefer buying into it only after the market corrects. It is very easy to pull up a chart of the S&P 500 Index and magically declare that 1270 is a place where you will allocate your precious capital, because otherwise stocks are for the birds if they keep moving higher from here. The problem with that line of thinking is that the market has a knack for making even the most polished and veteran of technicians look foolish. Understand that we have already corrected from 1333 down to 1300 over the past two weeks. While Friday morning’s jobs data could spark a major sell-off, the bulls have earned the initiative and this market is theirs to lose.

During uptrends and rallies, the hottest stocks will naturally become extended. At that point, we see the bulls’ true test of mettle, in the sense that either capital rotates out of equities as a whole (bearish), or instead rotates out of the extended names and down to stocks setting up behind the leaders (bullish). I refer to the latter, bullish scenario as “lock and roll,” since traders are locking in gains from the extended names, and rolling them back to stocks set up next in line. What the bulls want to see is that continuity between capital rolling back into other stocks as the leaders take a well-deserved rest.

I view the “lock and roll’ test as important not just intra-market (such as the coal, solar, financial names finally starting to sustain moves), but also intra-sector, such as with the biotechnology stocks. Clearly, many biotechs have seen great runs of late. We have successfully been playing quite a few inside 12631, as I have detailed the sector’s new leadership role in many posts over the past few weeks. Of course, quite a few of those stocks are too extended to touch for swings right now. Accordingly, I am looking to see whether we get a lock and roll down to the following biotechs setting up behind the leaders.

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Many posts in my tab this year have either directly or implicitly discussed the biotechnology sector. Indeed, the group as a whole has been a monster to the upside in recent months, and that type of outperformance commands your attention. Today, the biotech’s are outpacing just about every other sector and major index in the market.

Inside 12631, we have been constantly discussing biotech stocks, and not because we are inclined to trade them (we are not), but rather because we are respecting the market’s price action and message. Trading biotechnology stocks may sometimes feel akin to holding a pin less hand grenade, given the FDA’s propensity towards surprise announcements that can literally crush or explode a stock price in a matter of moments.

However, as I discuss at great length in this post, you must not let a few outlier events in a stock or sector dissuade you from high probability trades and opportunities. Currently, the biotechnology sector remains in bull mode, and I see quality setups and follow-through. It is very easy to talk a big game about being objective and remaining disciplined in the market, but a major reason why we have cultivated large readership here on iBC and a growing subscriber base in The PPT and 12631 is because we execute, too.

I am not inherently a biotechnology bull, but when the going is good I am going to play along, with stops in place. As the biotech space heats up, there may indeed be reason for caution as it potentially becomes a crowded trade. Here again, respecting technically and the psychology of the market is important, rather than carrying over hang-ups about the sector in general.

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Those who have been reading me since I started blogging on iBankCoin, and those who have been inside 12631 with me since we opened the service know that, walking into today, I have as many swing longs on now as I have had at any time over the past year. The pressing issue is whether this market is climbing a bullish “wall of worry,” and with each consolidation day that we have seen there seems to be a growing chorus of skeptics looking for at least a deeper pullback.

However, the market is shunning those skeptics this morning, zooming ahead with breadth running pretty impressively. There seem to be more charts properly set up than what we have seen in many months. Moreover, I continue to have little interest in calling a top to the market until the bears show more initiative than what we saw over the past several days of trading.

As today’s session progresses, I continue to look for quality entry points in high probability setups on the long side. While there is always the possibility of the “big fade” of this rally, the market has not been very friendly to that kind of bearish thinking in 2012.

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http://www.youtube.com/watch?v=rOzXsqoJhtE

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Even though stocks, as a whole, have markedly improved over the past few weeks, mistakes are still being punished. Case in point: This morning’s gap up at the open has crushed those traders who chased on the long side. Moreover, we remain in earnings season, and there have been plenty of stocks that have sold off hard after the announcements, which is the main reason why I usually trade around earnings.

Overall, the market is still consolidating in a rather orderly manner. So, even though mistakes are being punished the bull case remains intact. The S&P 500 has retraced back to its rising 20 day moving averages with benign selling, and even though this morning’s gap was faded I remain constructive on the market. We are focused on disciplined trading inside 12631, and not becoming exuberant in chasing this morning’s gap higher is a pretty good example of how much value our community adds to its members, rather than cherry-picking a monster winning trade.

As today’s session progresses, I am looking at the 1300-1308 area on the S&P 500 to see if it acts as support like it did yesterday. A few ideas on the long side that are acting well despite today’s selling: AH DAN OXM.

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Unlike previous instances in 2012, a morning gap down was not immediately bought by eager dip-buyers. Instead, the market has gotten down roughly 1% and stayed down, thus far this morning. It is still early in the session, but we are seeing a slight change of character. The more important issue for traders going forward is whether this morning’s price action represents some kind of sea change, in which we are witnessing a major reversal. One thing to keep in mind is that the S&P 500 Index looks to be simply coming in to test its rising 20-day moving averages, which is just a few points below price now. Moreover, sentiment seems to be awfully quick to turn to cautious with each of these pullbacks, which could be construed as helping the market climb a bullish “wall of worry.”

As the session progresses, I will be watching to see if more individual stocks start to shun the broad market action and move higher from technical setups. The broad market may indeed be taking a rest for a few days, but the sign of a healthy market will be individual issues continuing to press forward. Two ideas that I have been flagging here and inside 12631 are seen below. Both look to be acting well this morning.

On the downside, I am looking to see how the S&P 500 reacts to that 20 day moving average test, which is currently at 1297 and rising.

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