The Wagner Daily

Commentary:

The market’s two-day rally we saw last week proved to be unsustainable as more profit warnings from a few giants such as Philip Morris enabled the bears to take control once again. After a big reversal with heavy selling at the close on Friday, both the S&P and Nasdaq gapped down yesterday morning and sold off even more with the release of the Chicago PMI report at 10 am. However, the high volume selling on the open enabled the market to put in a base and the S&P formed a double bottom by 10:30 am. This made us reluctant to enter any new short positions, despite the obvious weakness in the market. Although the S&P trended slightly higher for the rest of the morning, it remained in a very tight trading range from noon until about 1:30 pm. This trading range clearly showed us where the resistance point was going into the afternoon session, subsequently enabling us to profit from SPY’s break of resistance that occurred just after 1:30. We then used a trailing stop to lock in profits throughout the rest of the afternoon. Being patient enabled us to wait for the one clear intraday trade setup that occurred without exposing ourselves to a lot of downside risk.

Of particular interest was the Dow Jones Industrial Average, which closed at a new low not seen since 1998. Although the Dow managed to close above the intraday lows of July 24, the new closing low is quite bearish and will likely continue to be a drag on the markets in the short-term. However, since the large cap blue chips are typically the last to fall in a bear market, one could actually interpret the Dow’s drop as being bullish for the broad market in the long-term, especially if we start to see a recovery in the small to mid cap stocks in the fourth quarter.

Strong sectors yesterday included Gold, Utilities, and Biotechs. The weakest sector was retail, which dropped over 4% on the day due to profit warnings from some of the key players in that sector. Internets, Semis, and Software were all weak as well, which caused the Nasdaq to be weak relative to the S&P. Going into today, keep an eye on PPH (Drug sector) and RTH (Retail sector), both of which are poised to break major support levels on their daily charts. We do not have them listed as plays below because we think they will probably bounce first, but keep an eye on them nevertheless.

One random thought is that yesterday afternoon’s recovery in the S&P was probably due in large part to the quarterly “window dressing” effect. This is the term used to describe mutual fund managers buying or selling specific securities on the last trading day of a calendar quarter in an attempt to make their portfolios look better. Since most mutual funds issue quarterly statements, fund managers want it to appear as if a specific stock or sector has been part of their fund’s portfolio for the duration of the entire quarter, even though they only bought on the last day of the quarter. “Window Dressing” days often are marked by strength in sectors that have been doing well for the prior several months as managers buy these sectors for their portfolios. Likewise, managers sell stocks in their portfolios that have not been doing so well for the same reasons. Our point in telling you about “window dressing” is that we will often not know the true underlying strength or weakness of the market until the following day after the quarter has passed. It will be interesting to see if the market maintains the stabilization that occurred yesterday without the “window dressing” effect.

As you may already know, October is historically a month which marks the start of a multi-month rally that typically occurs after earnings warnings season ends towards the end of the month. Therefore, in addition to multi-day “swing” trades, we will be keeping an eye out for any positions we feel are low-risk candidates for longer-term multi-month trades.

Today’s watch list:

DIA – DIAMONDS (Dow Jones Industrial Average Tracking Stock)
Sector: n/a
Short

Trigger = 75.17
Target = 71.05
Stop = 76.65

Notes = Since the Dow closed at a new 4-year low yesterday, we definitely want to be short the DIA tracking stock if the Dow confirms the breakdown today. Yesterday afternoon’s recovery in the Dow, as well as today’s premarket gap up, may enable to Dow to hold yesterday’s lows and form a double bottom on the daily chart. Therefore, as always, we will not be shorting DIA unless it hits our exact trigger point.

We will be looking to trigger the short if DIA trades below the low of July 24 again, which is 75.28. This would also put DIA in the lower channel of yesterday’s range, thereby creating significant overhead resistance. An even more conservative play would be to wait for a break of yesterday’s lows before shorting. Our stop is just above the lows of September 23 and 24, both of which should act as resistance. Our target is a Fibonacci extrapolation of the most recent major selloff on the daily chart (see our educational Fibonacci article on the website).

SMH – Semiconductor HOLDRS
Sector: Semiconductor
Long

Trigger = 20.07
Target = 21.15
Stop = 19.40

Notes = Although the SOX index lost support yesterday, a gap above yesterday’s high of 19.75 would create an “island reversal” pattern on the daily chart. This occurs when the price gaps down below the intraday low (support) and immediately gaps back above the previous day’s high (resistance) the following day. When the gap down day occurs on light or average volume, this indicates the sellers are drying up and the break of support will not hold.

In the case of SMH, we will only be looking to buy on a rally above whole number resistance of 20, which also puts SMH above the lows of September 25 – 27. It is important to note that there are three moving averages that are showing resistance around 20 — the 20 and 50 MA on the 60-minute, and the 200 MA on the 15 minute chart. If we trade above 20, these moving averages should once again become support. Our stop is just below support on the 60-minute chart, which is around 19.50. Our target is the highs of September 25 and 26, just over 21.

Deron’s Report Card:

Last week was not very exciting, but we still managed to close the week slightly positive despite the indecision in both the beginning and end of last week. By continuing to focus on protecting our capital and minimizing the downside risk, we are positioning ourselves for significant profits when trading conditions improve. While we cannot control when trading conditions will improve, the one thing we CAN do is properly manage trades once we enter them through the use of trailing stops and proper position sizing.

Here are our combined trade stats, including both intraday and swing trades, for September 23 – 30:

6 trades, + 2.87 points

6 trades, (1.12) points

(none)

***NOTE***

Beginning today, we have simplified the reporting procedure used to report each day’s trades. The primary difference between the former and the new reporting format is a distinction between trades that were specifically listed in The Wagner Daily and those that were sent out via Intraday E-mail Updates. This is especially beneficial to subscribers who participate in the plays listed in The Wagner Daily, but do not follow our intraday plays. As always, we appreciate your feedback if you have any comments or suggestions as to how we can further improve our reporting system for maximum clarity and accuracy.

“Swing” trades (per The Wagner Daily)

Closed Positions:

SMH long (from Sept. 26) – bought 20.29, sold 20.10 (trailing stop hit), closed with (0.19)

SWH long (from Sept. 27) – bought 22.20, stopped out 21.70, closed with (0.50)

IWM long (remaining HALF position from Sept. 26) – bought 73.42, stopped out 72.65, closed with (0.77)

Open Positions:

(none)

Intraday trades (per Intraday Updates E-mail Service)

SPY long – bought 81.63, sold 82.39 (average), closed with + 0.76

Glossary and Notes:

Remember that opening gaps that cause stocks
to trigger immediately on the open carry a higher degree of risk because the
gaps (both up and down) often do not hold. Use caution if trading stocks with
large opening gaps.

Trigger = Exact price that stock must trade
through before I will enter the trade. If a long position, I will only enter the
stock if it trades at the trigger price or higher. For a short position, I will
only enter the stock if it trades at the trigger price or lower. It is really
important to only enter the position if the trigger price is hit, otherwise the
trade becomes riskier.

Target = The anticipated price I am
expecting the stock to go to. However, this does not mean that I will
always hold the stock to that price. If conditions warrant, I will sometimes
take profits before that price, in which case I will notify you of the
change.

Stop = The price at which I will have a physical stop
market order set. As a position becomes profitable, this stop price will often
be adjusted to lock in profits. Again, you will always be notified of such
changes in the next daily report or intraday if you subscribe to intraday
updates.

SOH = Sit On Hands (Don’t Make Trades)

Closed P&L under Deron’s Report Card is based on the actual
price I closed my trade at, not just the theoretical target or stop price listed
for each stock. Open P&L is based on the closing prices of the most recent
trading day.

Unless otherwise noted, average holding time is 2 days to 2
weeks once a position is triggered. Updates on open positions are provided
daily.

Yours in success,

Deron M. Wagner