The Wagner Daily | December 8, 2004

Commentary:

The indecision in the broad market we have been discussing over the past several days finally gave way to the bears yesterday, as each of the major indices sold off sharply and on significantly heavier volume. After a short-lived rally attempt in the morning, the major indices each had rolled over to new intraday lows by 1:00 pm EST. The sudden reversal triggered institutional program selling in the afternoon, which further fueled the selloff. By the closing bell, the S&P 500 and Dow Jones Industrial Average had lost 1.1% and 1.0% respectively. The Nasdaq Composite Index, which had formerly been leading the way higher, showed the most relative weakness and closed 1.7% lower. It was the largest percentage loss in the Nasdaq within the past six weeks. Each of the major indices also closed at their worst levels of the day, indicating a complete lack of buying interest once the selloff began.

Yesterday’s selloff was very broad-based, meaning that nearly every major sector showed significant losses. On most “down” days, there are typically at least one or two sectors that diverge from the broad market and show strength in the face of weakness. However, this was not the case yesterday. Even leading market sectors such as Steel, Oil, and Gold each showed losses. In the Nasdaq, the Goldman Sachs Internet Index ($GIN) lost more than 2%, as did the Semiconductor Index ($SOX). Fortunately, we shorted QQQQ (Nasdaq 100 Index Tracking Stock) before the afternoon selloff picked up steam, and we also took the QQQQ short position overnight (as per intraday e-mail alert to subscribers). The afternoon weakness stopped us out of our long position in PPH, but the trailing stop enabled us to break even on the trade. SMH (Semiconductor HOLDR) missed its trigger price for entry yesterday, so no harm done there either.

The broad-based selling we discussed above is confirmed by a quick look at yesterday’s breadth readings. In the NYSE, declining volume outpaced advancing volume by a whopping margin of 4.8 to 1! Declining issues similarly outpaced advancing ones by a margin of 3 to 1 in the NYSE. Breadth was slightly better in the Nasdaq, but still firmly negative. More importantly, total market volume rose sharply in both the NYSE and Nasdaq. In the Nasdaq, volume surged 26% higher than the previous day’s level. It was the highest single day of volume since June 25, which is rather bearish considering yesterday’s action. NYSE volume increased as well, but “only” by 13%. The percentage losses in the major indices, combined with the negative breadth and much higher volume levels, indicate that yesterday was clearly an institutional distribution day.

As we have said in the past, a single day of broad-based losses on higher volume is generally not cause for concern to the bulls. But, consider for a moment how yesterday’s distribution day correlated to pivotal prices on the daily charts of the major indices. Specifically, remember that the Nasdaq had been trying for three days to close above its prior 52-week high from January, at the 2,152 level. Yesterday’s loss now means the Nasdaq has the makings of a potential double top, right at its prior 52-week high. This does not mean the Nasdaq will not eventually break through the 2,152 level, but it appears that a correction is likely to occur first. A look at the weekly chart of the Nasdaq Composite shows not only the beginning of a double top, but also the next major area of support, which is the lower channel of the uptrend line from the August 2004 lows. We feel the Nasdaq could easily correct down to support of the blue uptrend line on the weekly chart below:

Yesterday’s losses also caused both the S&P 500 and Dow Jones Industrial Average to close below support of their 20-day moving averages for the first time since October 26. While the daily chart is poised for further correction, the longer-term weekly chart of the S&P 500 still looks pretty good. However, the Dow Jones Industrial Average, like the Nasdaq, has thus far failed to clear resistance of its prior 52-week highs from the beginning of the year. The weekly chart below illustrates this:

Given yesterday’s action, it seems likely the broad market is going to realize at least a short-term correction. This is not surprising given how far the major indices have rallied in such a short period of time. If you have been following our commentary the past several days, we have been cautious against entering new long positions in the broad market, and apparently with good reason. Nevertheless, the longer-term weekly chart of the S&P 500 still looks quite bullish. But the inability of both the Nasdaq and Dow to rally above their prior 52-week highs may become a bit of a problem. In the December 7 Wagner Daily, we mentioned that being positioned mostly in cash was probably the safest play. While we still feel this is true, we also think it would be relatively low risk to begin initiating small short positions in the weakest of the major indices or sector ETFs. Just don’t get too aggressive with your share size because one day of high volume selling is not enough to confirm a complete failure of the recent gains.

Today’s watch list:

There are no new plays for today, although we are now short QQQQ from yesterday’s entry.

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:

net P/L = + $3

Open Positions:

unrealized P/L = + $204

Notes:

Per intraday e-mail alert, we shorted QQQQ yesterday. PPH also hit our trailing stop yesterday, making the trade a “scratch.”

Edited by Deron Wagner,
MTG Founder and
President