The Wagner Daily | August 17, 2005

Commentary:

A break of the Nasdaq’s weekly uptrend line sparked a broad-based, high volume selloff that hit nearly every industry sector. The major indices began the session with an opening gap down, trended steadily lower throughout the entire day, and closed at their intraday lows. The Nasdaq Composite plummeted 1.4% yesterday, its biggest one-day decline since its 1.5% drop on April 22. The S&P 500 and Dow Jones Industrial Average suffered similar losses and closed lower by 1.2% and 1.1% respectively. Even the mid and small-cap stock indices, both of which have been showing relative strength to the S&P and Nasdaq for months, sustained sizable losses. The S&P 400 dropped 1.4%, while the Russell 2000 Index shed 1.7%.

Yesterday’s total market volume increased by 14% in the NYSE and 12% in the Nasdaq. The rise in the broad market’s volume levels, combined with the losses, caused both the S&P and Nasdaq to register another bearish “distribution day” that clearly indicated institutional selling. Market internals were extremely negative, as declining volume exceeded advancing volume in the NYSE by a whopping margin of 5.3 to 1! The Nasdaq was negative by a ratio of 2.7 to 1. The last time the NYSE adv/dec volume ratio was negative by more than 5 to 1 was back on April 15, a day in which the S&P 500 fell 1.6%.

Each of the Nasdaq’s three “down” days within the past five days have been distribution days, but careful attention to our daily volume analysis of the broad market should have prepared you for a possible selloff. In the week preceding yesterday, price action itself looked okay in the Nasdaq, but we have been warning that the price to volume relationship of the broad market actually turned negative five days ago. Because volume is a leading indicator that shows what is happening beneath the surface, you will often see bearish signs such as higher volume selling (“distribution”) and lighter volume rallies at least one to two weeks before the price action becomes bearish. This is why we focus so much on the market’s volume every day.

As the market internals indicated, yesterday’s selling was broad-based and aggressive, leaving essentially nowhere to hide on the long side of the stock markets. The Airline Index ($XAL), which rallied 3.4%, was one exception. The Gold Index ($GOX) also closed higher, but only fractionally. Otherwise, every other major industry sector we follow closed in the red. Sectors ranging from Oil to Internets, Home Construction to Computer Hardware, and Utilities to Transportation all closed with losses of 1.3% or greater. Even the Semiconductors ($SOX) and Biotechs ($BTK), two industries that were formerly showing relative strength, lost 2.0% and 1.7% respectively. Of particular interest to us was yesterday’s 2.6% drop in the Retail Index ($RLX).

Lowered sales guidance numbers from Wal-Mart and a handful of other retailers triggered a sharp drop in the $RLX, but this was to our delight because it also caused RTH (Retail HOLDR), which we are short, to fall nearly 3 points and close below its 50-day moving average. Additional weakness in the apparel retailers also enabled the MTG Stalk Sheet’s short setup in BEBE to trigger and hit its downside price target in the same day. RTH, which we shorted in the August 5 issue of The Wagner Daily, is now on its way to our new downside price target of the $95.20 area. As subscribers will recall, we shorted RTH after it closed below support of its 3-month uptrend line on August 4. It subsequently traded in a choppy range in the seven days that followed, but fell below the trading range and support of its 50-day moving average yesterday. The daily chart of RTH below illustrates the initial break of trendline support on August 4, as well as yesterday’s drop below the 50-day moving average:

Just as quickly as the Nasdaq Composite bounced off support of its three and half month uptrend line on Monday, it collapsed below it yesterday. This, however, should not have been surprising given the combination of the previous day’s weak, low-volume bounce and the lack of confirmation by the S&P and Dow. Remember that a prior support level becomes the new resistance level after the support level is broken. Therefore, expect the Nasdaq to now find resistance at its prior uptrend line, currently near the 2,150 level. Next support on the Nasdaq is at the 50-day moving average of 2,126. Because the Nasdaq is still 11 points above its 50-day moving average, it remains tricky to attempt shorting in the tech and biotech-related stocks and ETFs at current levels.

If looking for a short in the broad market ETFs, consider one that has fallen below its key moving averages, as that will provide more overhead resistance in the event of a rally attempt. We would avoid trading in QQQQ (Nasdaq 100 Index) right now because it is in “no-man’s land,” trapped between key support and resistance levels. DIA, however, is looking like one of the better broad-based ETF shorts because the Dow Jones closed below support of both its 50 and 200-day moving averages yesterday. The Dow has also been the biggest laggard of the major indices during the broad market’s most recent rally. Our model account is currently short both UTH and RTH, two sector ETFs that tend to move with the Dow, but you may consider shorting DIA as well. The daily chart below shows how DIA closed right at support of its prior low and its 200-day moving average at the 105.28 level. A drop of at least 15 cents below that level would be an ideal entry point for a break of support in DIA:

As for SPY (S&P 500), it is still holding above support of both its weekly uptrend line and its 50-day MA, but we would consider shorting it if it breaks the 50-day MA and fails a subsequent bounce. Overall, yesterday’s action has changed our short-term bias from neutral to bearish, but the intermediate-term uptrends in most of the indices remain intact (at least for now). Most importantly, be sure to honor your stops on all positions, regardless of whether you are net long or short. Trends can be erratic and choppy during the light-volume “summer doldrums,” so stay alert and don’t overtrade!

Today’s Watchlist:

There are no new “official” trade setups today, as we are near our maximum buying power based on the model account size. Advanced traders, however, may consider shorting DIA if it breaks below its 200-day moving average.

Daily Reality Report:

Below is Morpheus Trading Group’s daily
performance report of trades that were closed since the last newsletter, as well as an update on all open positions from The
Wagner Daily. Net P/L figures are based on the $50,000 Wagner Daily model account size.

Closed positions (since last report):

Open positions (coming into today):

unrealized P/L = + $616

UTH short (300 shares from Aug. 10) –
shorted 113.13, new stop 114.25, target 107.80, unrealized points = + 1.41, unrealized P/L = + $423

EWA long (800 shares from Aug. 3) –
bought 18.36, stop 18.35, target of new highs (will trail stop), unrealized points = + 0.42, unrealized P/L = + $336

Current equity exposure ($100,000 max. buying power):

$88,004

Notes:

Click
here for glossary and explanation of terms used in The Wagner Daily

Click here to view MTG’s past performance results (updated monthly).

Edited by Deron Wagner,
MTG Founder and
Head Trader