Commentary:

If you only saw yesterday’s closing prices and did not watch or participate in the intraday trading action, you may have assumed that the broad market closed yesterday with only fractional losses. After all, each of the major indices closed less than 0.3% lower. But, although the absolute losses on the day were minor, the technical picture of what occurred was much more negative.

On the heels of a positive earnings report from Intel, the S&P 500 Index and Nasdaq Composite began the day with opening gaps of 0.5% and 1.2% respectively higher. However, sellers took control within minutes of the opening, causing ONEQ (Nasdaq Composite) to completely close the gap, while SPY (S&P 500) and DIA (Dow Jones Indu.) both sold off all the way down to the middle of the previous day’s range. Going into the late morning session, the major indices attempted to shake off the opening losses, but were unable to rally beyond their 50% Fibonacci retracement levels. When an index cannot retrace beyond its 50% level, it usually leads to a resumption of the previous trend. In this case, it caused another round of selling to hit in the late afternoon which drove the major indices down to new lows before bouncing slightly into the close. The 5-minute intraday chart of SPY below illustrates how both the 38.2% and 50% Fibonacci retracement levels acted perfectly as resistance when the S&P bounced in the late morning session:

Yesterday was representative of what we commonly refer to as an “exhaustion gap.” This occurs when, after an extended move in a particular direction, an index gaps even more in the direction of the gap, but the gap is subsequently closed when the direction reverses. Going into yesterday morning, the major indices were already sitting on gains from 9 out of the past 10 trading sessions. Then, on top of those gains, the broad market gapped up to new highs yesterday morning. However, since the gap was immediately filled and the major indices closed lower on the day, the gap was referred to as an “exhaustion gap.” An exhaustion gap can occur in either direction, depending on the trend of the market, and often signals a short-term end of the move. In this case, the exhaustion gap may have signalled a short-term end of the market’s most recent rally.

In addition to the exhaustion gap, it is also important to note that many, many sectors and individual stocks began yesterday morning at new 52-week highs, but subsequently sold off and closed lower. Although the major indices each closed down 0.3% or less, many individual stocks that were formerly market leaders closed with losses of 2 to 3 percent. When market leaders that were formerly showing relative strength begin to show relative weakness to the major indices, it is often a warning sign that the broad market may be coming under selling pressure. Furthermore, it is bearish that so many breakouts to new 52-week highs failed yesterday. A stock should typically close strong, near its intraday highs, when it breaks out to a new 52-week high. When it doesn’t, the failure to sustain the new high often traps the bulls who bought the gap up to the new high.

Perhaps the most important technical observation about yesterday’s price action is that total market volume increased significantly over the previous day (14% in the Nasdaq and 17% in the NYSE). In addition, overall volume came in above the 50-day average levels. Since the major indices closed lower on the day, but on higher volume, yesterday was technically a bearish “distribution day.” Interestingly, this followed a bullish “accumulation day” that occurred on Tuesday.

IBM reported earnings after the close yesterday and their revenue numbers slightly missed expectations. In the after-hours market, IBM was trading down as much as 3 points below its closing price. When combined with yesterday’s reversal day, this is likely to set a bearish tone going into today. Because the market has been so indecisive lately, we recommend caution against aggressively getting short right now. However, we believe it is safe to enter short positions with smaller than average share size if you set stops just above yesterday’s highs. If you are long, make sure you honor your stops so that you can protect profits and minimize losses if conditions deteriorate further. For now, remember that yesterday’s high and low prices will serve as the primary support and resistance levels. After we see what type of follow-through the market brings us today, we will look at some other key support and resistance levels to watch in tomorrow morning’s newsletter.

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Today’s watch list:

We are considering a long entry in WMH (Wireless HOLDR) above the $44 area. We entered on the breakout a few days ago and were stopped out. However, WMH showed relative strength yesterday and is still consolidating near its highs. We therefore feel it may break out if the market shows any strength today. But, we would rather wait to see the overall market direction before listing this as a long setup. If we do decide to enter WMH, we will send an e-mail notification to alert you.

We are also considering shorting a few of the broad-based ETFs, particularly MDY and ONEQ. But, we would need to see a break of yesterday’s lows before doing so.

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

Closed Positions:

(none)

Open Positions:

(none)

Notes:

The PPH long setup from yesterday did not trigger. We profited from a few short trades in the ETF Real-Time Room and they will be reported in the next Wagner Weekly newsletter.

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