Commentary:

As I sit in the MTG office writing today’s newsletter, my neck is still hurting from the whipsaw action of yesterday’s trading day. Wow, what a volatile session! Yesterday was obviously a news driven day fueled by Colin Powell’s presentation to the UN. The major indices began the day with a small opening gap up, but it was quickly filled within the first thirty minutes of trading. Upon filling the gap, both SPY (S&P 500 Index) and QQQ (Nasdaq 100 Index) continued selling off until finding support at the highs of the previous afternoon. This coincided with the time in which Powell began his 90-minute presentation.

When Colin Powell began presenting compelling evidence that Iraq was tipped off about the UN inspection and was also concealing evidence of biological and nuclear weapons, the markets began rallying sharply. This was largely expected because the market interpreted this as positive news because it removed more of the indecision over whether or not we were going to war with Iraq and provided a glimmer of hope that maybe something, anything, would soon take place to just “get it over with.”

The initial move higher was led by QQQ, which quickly broke above it’s morning high while SPY initially ran into resistance from its morning high. The Nasdaq was led higher due to strength in the Semiconductor Index, which showed relative strength from the open. After consolidating and forming a pennant continuation pattern, both SPY and QQQ broke out to new highs in the early afternoon. Most importantly, SPY broke major resistance of the upper channel of its downtrend from the highs of Jan. 15, which prompted us to go long both SPY and DIA (as called in the ETF Real-Time Room) in anticipation of a strong late afternoon session. The hourly chart of SPY below illustrates this breakout:

Although the break of the trendline resistance above was a beautiful classic long setup, the market had a violent reversal back down by late afternoon as talk began surfacing that Powell’s speech did little to convince UN members who were previously opposed to a war in Iraq. This was seen as a strong negative by the market because it once again meant we were back to “indecision” mode over how to handle the Iraq situation. As a result, each of the major indices not early retraced off their highs and gave back their gains, but totally reversed the morning uptrend and eventually broke to NEW LOWS of the day! The reversal was actually pretty amazing. Fortunately, we had our stops in place just beyond a 0.50 retracement of the intraday rally which enabled us to keep our losses relatively small. In fact, without strict adherence to our stops, the losses in SPY and DIA would have been nearly three times as large.

The bottom line is that yesterday, like the past several weeks, was extremely difficult to trade because there were clear signals to buy in the late morning session, including the break above resistance of the multi-week downtrend line, but it did not matter. The geopolitical news was strong enough to render the technicals invalid, which has often been the case lately. All you can really do on a day like that is stick to your plan and adhere to your stops.

The closing prices of the major indices yesterday were once again right in the middle of the trading range that has been in place for the past two weeks. Needless to say, this does not bode well for intraday trading action going into today. Unless we suddenly attack Iraq or have some other clear news on the situation, I would expect much of the same whacky trading action we have been seeing for the past several days (and weeks). Trend trading is quite challenging in this environment because trends have not been lasting for more than an hour or so. Until the market breaks out of its current trading range, you either need to scalp for tiny profits or sit on the sidelines and wait, which is actually a pretty good idea. Even if the market does break out of the trading range, it is best to wait for additional confirmation because false breakouts and breakdowns have been the norm of late. Most importantly, obey, obey, obey your stops! As long as you do, your trading account will live to see better times. If you don’t, you could easily be chopped to pieces in a matter of days.

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Today’s watch list:

QQQ – Nasdaq 100 Index Tracking Stock

Short

Trigger = below 23.93 (below yesterday’s low)
Target = 23.20 (0.618 Fibo retracement from October low to December high)
Stop = 24.25 (20-MA on 60 min. chart)

Notes = QQQ has been finding support at 24, but a break below that would correspond to a break below the important psychological support level of 1300 on the Nasdaq Composite. Just be aware of minor price support from the lows of Feb. 4.

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BBH – Biotechnology HOLDRS

Short

Trigger = below 85.95 (below the 200-day MA)
Target = 84.20 (low of December 30)
Stop = 86.75 (above low of Feb. 4)

Notes = The Biotechnology sector has been showing relative weakness over the past several days, but has been showing relative strength to the broad market on its daily chart. However, if the market starts to weaken, BBH is likely to break support of its 200-day MA and begin showing relative weakness to the market due to sector rotation into the “safer” sectors.

It is also possible we may enter a partial position of BBH short prior to breaking its 200-day MA, but it depends on overall market conditions. We will email an alert if we decide to enter early.

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Daily Reality Report:

Below is Morpheus Trading Group’s daily performance report of closed trades and an update on all open positions from The Wagner Daily (ETF Intraday Real-Time Room trades are reported separately in The Wagner Weekly).

Closed
Positions:

SMH long (from Feb. 5) –
Bought 21.77 (avg.), sold 21.81 (avg.),
points = + 0.04, net P/L = + $3

SWH short (1/3 position from Feb. 4) –
Shorted 27.62 (avg.), covered 28.00,
points = (0.38), net P/L = ($22)

Open Positions:

(none)

Notes: We bought SMH and were solidly in the money by early afternoon, but the market’s sudden reversal caused SMH to hit our trailing stop for only a small profit. We also closed the remaining shares (minimal) of our SWH short when the market began rallying strongly in the late morning session.

Click here for a detailed explanation of how daily trade performance is calculated.

Click here for a detailed cumulative report of MTG’s trading performance (updated weekly)

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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 1 to 3 days once a position is
triggered. Updates on open positions are provided daily.

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Yours in success,

Deron M. Wagner