Commentary:

The major indices spent the first half of yesterday trading modestly higher, but the broad market promptly reversed course and sold off sharply after the Feds announced a 1/4 point increase the Federal Funds Rate at 2:15 pm EST. The actual interest rate increase was widely expected by Wall Street, but the stock markets reacted negatively to Fed comments regarding the continued risk of inflation in the future. After the Fed announcement, the major indices each trended steadily lower, on much heavier volume, and closed at their respective intraday lows. The S&P 500 Index lost 1.0% yesterday, while both the Nasdaq Composite and Dow Jones Industrial Average closed 0.9% lower. The 15-minute intraday chart of the S&P 500 below illustrates how quickly the broad market reversed after the Fed announcement:

Total volume in the NYSE came in 16% higher than the previous day, while volume in the Nasdaq similarly increased by 14%. The broad-based losses on higher volume caused the broad market to register yet another “distribution day.” A majority of the “down” days this month have been on higher volume, while the almost non-existant “up” days have been on lighter volume. As we began pointing out several weeks ago, the days of institutional selling are usually a leading indicator of lower prices in the coming weeks. If you’ve been paying attention to the daily price to volume relationships of the broad market, the string of losses over the past two weeks should not have come as a complete surprise. The market has indeed been choppy, which has even made it difficult to maintain short positions, but our overall bias has been to the short side because of the quantity of “distribution days” that have been plaguing the markets over the past month.

Looking at the longer-term weekly chart of the S&P 500, you will see a very important area of price support at the 1,163 area. When the S&P first corrected sharply in January, the 1,163 level marked the price where the index found support and reversed because it coincided with support from the prior highs of the first quarter of 2004. The S&P closed only 8 points above that area of support yesterday, so it is likely to test that level in the next day or two. If it fails to hold, it will be quite bearish from a longer-term technical viewpoint. The blue horizontal line on the weekly chart below illustrates this key support level. Also notice the failed breakout above the December 2004 high during the past month (also bearish):

We’ve been recently discussing how the major indices have been out of sync with each other, but the Nasdaq Composite actually broke and closed below its 200-day moving average yesterday. Obviously, one day below the 200-MA does not confirm a clear-cut break of support, but watch closely in the coming days because the inability to rally back above the 200-day MA would only aid the bearish pictures of the S&P and Dow. Conversely, a quick recovery back above the 200-day MA would probably cause a resumption of choppy trading conditions in the broad market due to the divergent weakness in the S&P and Dow. The 200-day MA is currently at the 1,993 level, as you can see on the daily chart of the Nasdaq below:

Finally, we would like to bring your attention back to the U.S. Home Construction Index ($DJUSHB), which we began discussing last week. After coming down to support of its 50-day moving average on March 10, the index failed to bounce and instead corrected by time and traded sideways at the lows. On March 17, the index finally broke support of its its 50-day MA, which it closed below for the next two days. Yesterday morning, positive earnings reports from KBH and LEN caused the index to rise back above its 50-day MA during the first half of the session, but the index dropped hard after the Fed comments were released at 2:15. This caused a bearish “inverted hammer” candlestick to form on the daily chart of the index. This pattern is bearish because it traps the bulls who were anticipating a reversal off the 50-day MA support. It subsequently attracts short sellers, which further aids the bearish picture. The index has been experiencing a volatility contraction for the past two weeks, which means we are likely to see a big move in either direction very soon. The longer an index experiences a contraction in volatility, the greater percentage of the move when it finally breaks out of the trading range. Although we can’t be certain, odds are the direction of that move will be lower. We experienced a bit of displeasure with our hedge fund’s short positions in LEN, KBH, and RYL yesterday morning, but they each closed very weak and now have a good chance of making a substantial move lower in the coming weeks. As such, we remain short this mini-basket of stocks in the Home Construction Index. Notice the “inverted hammer” on the candlestick chart of the $DJUSHB index below:

As a reminder, the U.S. stock markets will be closed this Friday, March 25 for the Good Friday holiday. As such, The Wagner Daily will not be published that day, but regular publication will resume on Monday, March 28.

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Today’s watch list:

MDY – S&P 600 Mid-Cap Index Tracking Stock
Short

Trigger = below 120.20 (below yesterday’s low)
Target = 116.05 (just above support of January low)
Stop = 122.28 (above yesterday’s high)

Notes = We’re looking to short MDY on a break below its 50-day moving average.

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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 (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:

IWM short (HALF position, from March 16) –
shorted 125.08, covered 125.47, points = (0.39), net P/L = ($21)

Open Positions:

IWM short (HALF from March 16, HALF from March 22) –
shorted 125.04 (avg.), new stop 125.85 (full position), new target 120.10, unrealized points = + 1.94, unrealized P/L = + $194

Notes:

The first half of IWM short hit its stop yesterday afternoon, but (per intraday e-mail alert) we re-shorted that half of the position after the Fed announcement. Our new average price is shown above, as well as new stop and target prices on the short position. Yesterday’s long setup in SMH missed its trigger price for entry by a penny.

Edited by Deron Wagner,
MTG Founder and
President