The Wagner Daily | October 17, 2005

Commentary:

After a selloff that started on October 3rd and didn’t abate for nine straight sessions, the major averages finally caught a bid on Friday and managed to close above their opens and tack on some gains. The Dow Jones Industrial Average gained 70.75 (+.69%), The S&P 500 added 9.73 points (+.83), and the Nasdaq Composite was ahead by 17.61 (+.86%). After an announcement that Steven Spielberg would collaborate with Electronic Arts (ERTS) on three new games, the software sector ($GSO up 1.96%) seemed to be the catalyst that got the Nasdaq moving, which was complemented by some interest in energy sectors such as Oil Services ($OSX up 2.54%) and Natural Gas ($XNG up 2.05%) that got the S&P and Dow moving northward into the close after a choppy open.

Whenever the market has a prolonged move in one direction and then turns in a reversal day like yesterday, there is always speculation as to whether the reversal day in question is a technical event that has fully reversed the trend, or is it just a “bounce” or “reaction” in the context of the already established trend. The answer to this question does not often lie in just one place, but is a combination of factors that will help us to decide what effect, if any, moves in the market have on overall bias. There are two main factors that are necessary for a market to define and sustain a trend. The first is that there be parallel moves in overall volume with the market (increases in overall volume as the market moves in the direction of the trend), and the second is that all sectors are firing on all cylinders and moving together in the direction of the trend. If an advance is to be meaningful it should have across the board participation from an overwhelming ma!
jority of sectors. Lets analyze yesterdays market action from these two perspectives.

In Friday’s publication we noted that overall volume in the Nasdaq did not increase, even as the Nasdaq turned in a stronger performance than the Dow and S&P and was ahead by almost 10 points. This has been more of a rule than exception lately in the markets as we turn in distribution day after distribution day. Friday’s trade was no exception as all of the major averages were in the green at the closing bell but overall volume fell by 7% in the NYSE and 16% on the Nasdaq. The two graphics below illustrate the unhealthy inverse relationship between price action and overall volume on the two exchanges.

In the graphical representations above, overall volume on both exchanges came in noticeably lower on Friday even as the market staged a respectable advance. Notice as well how strong overall volume was in preceding days as the market sold off very hard. This tells us that the “bounce” failed the first test of being an all out reversal. The market moved upwards and overall volume did not confirm.

As stated above, the second factor in analyzing reversal versus bounce in context of trend is to discern whether or not the advance of the reversal was broad based or scattered among a few sectors. One of the characteristics of Friday’s rally that struck us as odd was the lack of participation in the Semiconductor Index, or $SOX. Long time readers of The Wagner Daily know that the chip stocks have so much weight in the Nasdaq, that it will be difficult for the Nasdaq to stage an advance without their participation. Furthermore, this could be a sign that the Nasdaq which was relatively strong to the Dow in precding months is now also succumbing to selling pressure. Although the Nasdaq Composite gained .86% on Friday, the $SOX was actually down by .91%! Using a sector overlay is an excellent way to quickly analyze how sectors are acting intraday when compared against other sectors.

The snapshot above is simply a mix of 15 key sectors each represented by a line chart that is plotting every five minutes throughout the trading day. Draw your attention to the orange line which represents the $SOX or Semiconductor Index. Oftentimes it takes a picture rather than words to clearly see positive and negative divergence between sectors on an intraday basis. The negative divergence between the orange line and the other sectors is very obvious as almost every single other sector in the list closed above the zero line and most turned up sharply at the close. So, therefore Friday’s advance also fails the second test and for now should be defined as simply a “bounce” in the context of the downtrend that began on October 3rd. Although slightly unrelated to the topic at hand, don’t leave the chart above without noting that the brown line at the bottom of the snapshot represents the $DJUSHB or Homebuilders Index. Its just another confirmation of past commentary!
in this publication that has been categorically bearish on the building sector.

Today’s Watchlist:

There are no new plays for today. We will be watching for a bounce in the S&P back to the 1200 area and will more than likely be favoring the short side of the market going forward.

Daily Performance Report:

Below is an overview of all open positions, as well as a performance report on all positions that were closed only since the previous day’s newsletter. Net P/L figures are based on the $50,000 Wagner Daily model account size. Changes to open positions since the previous report are listed in red text below:

Open positions (coming into today):

Closed positions (since last report):

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

Notes:

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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