The Wagner Daily


The major indices followed through to the downside yesterday after breaking major trend line support the previous day. The broad market began the day with a sharp drop below the previous day’s lows, but mild buying support caused the indices to reverse and bounce to new highs of the day during the mid-day doldrums. Not surprisingly, the overhead selling resistance from the previous day prevented the market from being able to maintain its mild gains and sellers once again took control during the afternoon trading session. A major surge in volume during the final thirty minutes of trading caused each of the major indices to collapse and break below the morning lows. Once again, the broad market closed on its dead lows of the day and even the S&P and Nasdaq futures both dropped sharply lower from the 4 pm close of the market until the 4:15 pm closing time of the futures. The type of price action in which you see a morning selloff to new lows, a recovery to new highs in the afternoon, but then a selloff to new lows into the close is quite bearish because it indicates that institutions were selling into strength. Although total volume was slightly lower than the previous day, the volume surge and sharp selloff into the close sure made it feel like another “distribution day.” Negative breadth once again confirmed the weakness as well. It was an ugly close if you were long, but yesterday’s weakness should not have surprised Wagner Daily subscribers who paid attention to yesterday’s commentary in which we explained how the break of a six-month uptrend line in both the S&P and Dow Jones the previous day was likely to spur further selling. When the “late to the party” bulls are trapped at much higher prices, the selling feeds on itself as short sellers are attracted while bulls are trying to unload their positions.

Many of the formerly strongest stocks and sectors were hit hard yesterday, which is another sign that the selling was for real. When stocks have a mild pullback in bull market, the leading sectors typically do not correct as much as the broad market. That select leadership consequently props up the broad market. However, when the leading sectors and stocks begin to falter, trouble is often just around the corner. Yesterday, for example, the index with the most relative weakness was the Small Caps (IWM). If you look at a daily chart of IWM, you will see that the index has clearly been leading the rally of the past six months, but yesterday it was so weak that it was setting new intraday lows even while the S&P was just trading sideways. The Small Cap ETF (IWM) lost 2.7% yesterday and has dropped more than 5% in just two days! The Mid-Caps (MDY) also showed relative weakness yesterday, while the Dow Jones, S&P 500, and Nasdaq Composite all traded relatively in sync with each other.

One technical indicator that worked very well at predicting intraday resistance levels yesterday was Fibonacci (click here to read a brief explanation of this indicator). In a nutshell, Fibonacci is best used for predicting how high an index will bounce when in a downtrend or how much it will pull back if in an uptrend. The major Fibonacci retracement levels at which an index will usually run into resistance are 38.2%, 50%, and 61.8%. The less of a retracement level that an index bounces to, the stronger the direction of the trend. For example, a retracement (bounce) up to 50% of the range of a selloff would indicate less resistance than if an index only had enough momentum to bounce up to the 38.2% level.

If you wanted to use Fibonacci yesterday afternoon in order to predict how high the market would bounce before finding resistance, you would have measured the distance of the selloff from yesterday morning’s low to the high of September 23. Then, you would apply Fibonacci lines to see where the various retracement levels aligned. I have done the work for you and illustrated this on the chart of SPY (S&P 500 Index) below:

Looking at the chart above, notice how the SPY rally stopped dead in its tracks after it bounced to the 38.2% Fibonacci retracement level, which also converged with the 40-period moving average. After running into this convergence, notice how SPY never got above its 40-MA. Amazingly, both DIA (Dow Jones) and QQQ (Nasdaq 100) also rallied right up to their 38.2% retracement levels, which exactly marked yesterday’s highs. IWM (Small Caps) and MDY (Mid-Caps), both of which showed relative weakness, did not even have enough momentum to rally up to their 38.2% Fibonacci levels and instead ran into resistance at their measly 20-period moving averages on the 15 minute chart.

The convergence of the 38.2% Fibonacci level and the 40-MA on the chart of SPY above represented a low-risk entry point to enter new short positions because it provided a positive risk/reward ratio. If you were correct and the rally stopped at that level (which it did), you would have been short at the top and able to profit from the subsequent selloff to new lows. However, if you were wrong and the market continued going higher, you would simply set your stop just above either the 50% or 61.8% retracement levels and taken a small loss. Because your potential loss is much less than your potential gain, this equates to a positive risk/reward ratio, which is something we strive for in every trade we enter. I personally look for at least a 1 to 2 ratio, meaning that if I am risking one point of loss, I want to have a realistic profit target of at least two points. Conservative traders may wish to look only for trade setups with a risk/reward ratio of at least 1 to 3 instead. Here’s a secret for you: Professional traders use Fibonacci retracement levels as a chance to enter new positions in the opposite direction of the retracement while novice traders enter positions in the direction of the bounce. In other words, while the pros were selling short into yesterday afternoon’s bounce to resistance, the novices were buying because they did not understand it was simply a bounce into a resistance level. Remember that the goal of this newsletter is not to blindly feed you every single trade setup we enter, but to educate you so that you can empower yourself to become a profitable trader.

Going into today, the major indices are at key pivot levels and the manner in which the market reacts today will largely affect the tone of the next week’s trading. The S&P 500 Index closed at 1003 yesterday, just above the important psychological support level of 1000. However, the S&P 500 Index futures, which trade fifteen minutes longer than the index, traded down to and closed at 997 yesterday. More importantly, the closely watched 50-day moving average of the S&P 500 Index is at 1001. Therefore, the 1000 area is bound to be a key pivot level to watch as we enter the morning session. Notice also that the Dow Jones Industrial Average closed exactly 3 points below its 50-day moving average, while the Nasdaq is still above its 50-day MA. Because both the S&P and Dow closed either a few points above or below their 50-day moving averages, all eyes on Wall Street will be focused on whether or not the indexes find support at their 50-day MAs. It could easily go either way, so use caution entering new positions today, both long and short. It has been over six weeks since the indexes closed below their 50-day MAs, but the selling volume on this drop was much higher than when the indices broke their 50-day MAs in early August. The positive, however, is that the indices each have support of their 20-WEEK moving averages below. So, watch the weekly charts as well.

As a closing thought, I find it fascinating that the S&P 500 is already down to its 50-day moving average! In a matter of two days, the S&P managed to give back nearly one month worth of gains. Indexes tend to go down faster than they go up, which is one of the reasons that shorting can be so profitable when the market is downtrending.

Today’s watch list:

RTH – Retail HOLDR

Trigger = below 86.40 (below the 50-day MA)
Target = 84.10 (just above the 100-day MA)
Stop = 87.20 (above the two-day low)

Notes = RTH is poised to break major support here if it cracks below its 50-day moving average. However, we are keeping a relatively tight stop to protect against a false breakdown. Remember that a full position of RTH is equal to only 50% the share size of SPY, based on the MTG Position Sizing Model. Also remember to track $IRH.X, which is the index for RTH. That will enable you to know the fair value of RTH without the wide spread. Finally, use limit orders when trading RTH.

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). Net P/L figures are based on the
quantity of shares represented in the MTG Position Sizing

Closed Positions:

    DIA short (2/3 position size, from Sept. 23) –
    shorted 95.38, covered 93.91, points = + 1.47, net P/L = + $191

    MDY short (from Sept. 22) –
    shorted 96.25, covered 94.95, points = + 1.30, net P/L = + $127

Open Positions:



Per intraday e-mail alert, we lowered the stops in both DIA and MDY yesterday morning and were stopped out for solid gains when the market bounced in the late morning. We were flat overnight.

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)

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

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

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.

otherwise noted, average holding time is 1 to 3 days once a position is
triggered. Updates on open positions are provided daily.

Yours in success,

Deron M. Wagner