The Wagner Daily | April 12, 2004

Commentary:

Sparked by a wave of positive earnings reports, the major indices began last Thursday with a large opening gap up, but traders immediately sold into the strength and set an intraday downtrend in motion. The 1.2% opening gap up in the Nasdaq marked its intraday high, and the index trended steadily lower throughout the rest of the day. By late afternoon, the Nasdaq was actually trading at a loss, but a small rally during the final hour lifted the index to close with a fractional gain of 0.1%. Both the S&P 500 Index and Dow Jones Industrial Average traded in a similar intraday pattern, but both indices showed relative weakness and closed with losses of 0.1% and 0.4% respectively. The Russell 2000 Small Cap Index showed the most relative weakness and closed 0.6% lower on the day after the 0.7% opening gap up failed to hold. The MTG Opening Gap Rules enabled us to stay with our short position in IWM, which once again looks good after Thursday’s weakness. The intraday downtrend that occurred after the failed gap may have disappointed the bulls, but was a welcome change for trend traders who have been subjected to choppy and indecisive trading conditions during the prior week. As trend traders, we don’t care whether the market trends up and we buy stocks or trends down and we short stocks. The main thing we need is just a trend, which we got on Thursday.

Total market volume was 5% lighter in the Nasdaq and 16% lighter in the NYSE, which was not surprising given that many traders were absent ahead of the holiday weekend. Because volume was light ahead of the Easter weekend, It’s difficult to really know how bearish last Thursday’s price action was. If you ignore the light volume and look purely at price action, it was quite a bearish day because not only did the large opening gap fail to hold, but both the S&P and Dow closed at or below their lows of the previous day. When an index or stock gaps open above the previous day’s high, but subsequently sells off and closes below the previous day’s low, it forms a chart pattern known as a “bearish engulfing” candlestick. Below is a daily chart of DIA (Dow Jones Industrial Average) that illustrates the “bearish engulfing” candlestick that formed last Thursday:

The “bearish engulfing” candlestick usually leads to lower prices over the next several days because that pattern “traps” the bulls who bought the opening gap up and it also attracts the bears who smell a short-selling opportunity. Interestingly, notice how DIA (and the Dow) closed just a few points below support of its 50-day moving average. The Dow also ran into resistance of its 10-week moving average, which formerly acted as support. Keep a close eye on how the Dow (and DIA) acts around the 50-day moving average today because it is a very closely watched support/resistance level that is likely to have a big impact on the direction of the broad market.

The S&P 500 Index also tested support of its 50-day moving average on Thursday, but perfectly bounced at the 50-day MA instead of trading below it as the Dow did. Last Thursday’s low in the S&P perfectly matched the price of its 50-day moving average, which gives you a clear example of the power of the 50-day MA. Needless to say, this convergence of last Thursday’s low and the 50-day MA is a key support level to watch going into today. The daily chart of SPY (S&P 500 Index) below illustrates how the index found support at its 50-day MA:

Although the Nasdaq Composite gave up its gains last Thursday, it showed the most relative strength of the major indices and actually closed in the green. The Nasdaq Composite has been stuck in a range between 2,040 and 2,080 for the past five trading sessions, so watch for a break above or below this range. Remember also that the 2,020 area represents convergence of the 10 and 200-week moving averages on the Nasdaq, so a break below the 2,040 support level may not result in a large selloff due to support around 2,020.

As for individual sectors, look for follow-through weakness in the Retail sector ($RLX), which sustained large losses on Friday and has also formed a double top on its daily chart. RTH is the ETF that tracks the Retail Sector. On the long side, we may see further gains in the Internet Sector ($GIN), which gapped up and rallied to a new 52-week high last Thursday. If the gap holds, there will not be much overhead price resistance within the Internet sector, so watch for gains in HHH, which is the ETF that tracks the index.

Last week officially kicked off earnings season, and there are many more companies reporting earnings this week. As such, we expect traders’ interpretations of these reports to be the primary driving factor in determining market direction this week. Intel reports after the close tomorrow (Tuesday), and many other tech companies report on Wednesday. Although the broad market has held up well for the past few weeks, remember there is a lot of overhead price resistance from the prior highs earlier in the year. Volume patterns remain mostly bearish, as we have been seeing many “distribution days” over the past month, but only a few “accumulation days.” Until we begin to see a few days of higher closing prices with big volume surges, we remain cautiously bearish in the intermediate-term and neutral in the short-term. We’ll look at some longer-term weekly charts in tomorrow’s newsletter.

Today’s watch list:

DIA – DIAMONDS (Dow Jones Industrial Average Index Tracking Stock)
Short

Trigger = below 104.45
(below previous day’s close and the 50-day MA)
Target = 102.35 (61.8% Fibonacci retracement of the most recent rally)

Stop = 105.35 (above the 40-MA/60 min.)

Notes = See commentary above for explanation of the trade setup.

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 (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:

unrealized P/L = $64

IWM short (from April 6) –
shorted 119.53, stop 121.10, target 116.20, unrealized points = + 0.42, unrealized P/L = + $42

Notes:

IWM gapped above our stop last Thursday morning, but the MTG Opening Gap Rules enabled us to remain short. We also remain short QQQ.

Edited by
Deron Wagner,
MTG
Founder and President