Commentary:

The broad market wrapped up a strong week with a day of lighter volume consolidation last Friday. The major indices were mixed, as the S&P 500 and Dow Jones Industrial Average both closed 0.2% lower, but the Nasdaq Composite closed higher by the same percentage. After three solid days of gains in the beginning of last week, it was normal for the major indices to trade mostly sideways on Thursday and Friday. Such action usually enables the broad market to build a base of support from which to begin its next leg higher.

As you want to see on a mixed day of consolidation, total market volume dropped off in both exchanges. Overall turnover in the NYSE declined by 6%. Total volume in the Nasdaq came in 12% lighter than the previous day. The price to volume relationship of the broad market was bullish overall last week. On Tuesday and Wednesday, the major indices each closed firmly higher and on higher volume. Stocks absorbed their gains and corrected by time on Thursday and Friday, which resulted in mixed results for the major indices. But volume also declined during those two days, which is what you want to see on consolidation days. Last week’s price to volume relationships indicated that institutions are beginning to once again show signs of stock accumulation.

In the May 20 issue of The Wagner Daily, we took an in-depth look at the new relative strength in the Semiconductor Index ($SOX). If you happened to miss that issue, we strongly encourage you to read it now because we feel the new strength in the Semis is the most notable thing currently happening in the broad market. Because the Semis are so heavily weighted, the Nasdaq Composite will often follow the direction of the Semis. Furthermore, the Nasdaq usually leads the other major indices as well. Therefore, we feel the strength in the $SOX is the one factor that could lead the broad market higher from here, despite recent weakness in the S&P and Dow.

The $SOX index gained another 1.2% last Friday, which gave the index its eighth consecutive day of gains! It’s obvious that the $SOX is now the place to be if you’re on the long side of the market, but be patient and don’t chase stocks if you missed the initial rally in the Semis. Instead, wait for the first correction in the index and have a watchlist of stocks or ETFs within the sector that you would like to buy on the first retracement. However, because the index is so strong, we expect any price correction to be shallow and short-lived.

The most popular ETF that is comprised of Semiconductor stocks is SMH (Semiconductor HOLDR). Ideally, it would be great if SMH retraced back down to its 200-day moving average (new support level), but we are comfortable buying a partial position even on a 50% retracement to its 200-day MA. If you use Fibonacci to measure how deep of a retracement to expect, you will see that the 50% Fibonacci retracement converges with support of the 200-day MA. This would provide even more support if we see such a pullback:

For those of you who also trade individual stocks in addition to ETFs, you may want to consider the following stocks after the first correction in the $SOX index (in no particular order): FSL, MRVL, MSCC, PLAB, MCHP, SIRF, TRID, TSM, TXN. After doing extensive technical analysis on the Semiconductor sector, it is our opinion that those stocks are showing the most bullish patterns and relative strength on their daily and weekly charts. The Morpheus Capital hedge fund is stalking that same list of stocks for entry as well.

In addition to the Semis, don’t forget about the relative strength in the Biotechs as well. BBH (Biotech HOLDR) continues to trade at a four-year high, thanks largely to strength in Genentech (DNA). The weekly chart of BBH is very bullish and has closed higher in five of the past six weeks. The prior intra-week high of $160.25, set in April of 2004, should now act as the new support level on any pullback in BBH. Support of the prior high is illustrated by the blue horizontal line on the weekly chart below:

When ETFs such as BBH are at multi-year highs, the simple lack of overhead supply (price resistance) usually enables them to continue higher. This is the reason why we, and many other traders, focus on buying stocks and ETFs at new 52-week highs. As institutional sector rotation continues, both the Semiconductors and Biotechs are clearly the sectors to buy in the short to intermediate-term. Prior market leading sectors such as Oil, Oil Service, and Utilities are now showing relative weakness and may present short selling opportunities as well. Given the strong gains in the Semis and Biotechs over the past several weeks, it is wise to wait for some kind of correction before entering new positions in those sectors. Even if a pullback (“correction by price”) does not occur, a simple sideways price consolidation (“correction by time”) would allow the various moving averages to rise up and provide support of a new price base. If, however, you are already long, continue to hold your winning positions with reasonable trailing stops to maximize gains and protect your profits.

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Today’s Watchlist:

There are no new plays for today, although we will be looking for long positions on the first minor correction in the Nasdaq. Per the commentary and charts above, both SMH and BBH are looking good for long entry on a correction.

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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:

(none)

Open Positions:

UTH short (from May 13) –
shorted 103.64, stop 105.60, target 99.10, unrealized points = (1.21), unrealized P/L = ($121)

Notes:

No changes today.

Edited by Deron Wagner,
MTG Founder and
President