The Wagner Daily | December 28, 2005

Commentary:

Finished with their pre-holiday shopping, traders returned to the markets in a bearish mood yesterday and triggered a broad-based selloff on higher volume. Stocks began the day with an opening gap up, but the sellers immediately took control, causing the major indices to trend steadily lower throughout the entire session. The S&P 500, Nasdaq Composite, and Dow Jones Industrials each fell 1.0% and also closed at their intraday lows. Both the small-cap Russell 2000 and mid-cap S&P 400 indices showed relative weakness and lost 1.4% and 1.2% respectively. The drop in the Russell worked out well for our short position in IWM, which is presently showing a small unrealized profit. IWM short has been our only “official” position for the past week.

Total volume in the NYSE increased by 21% yesterday, while volume in the Nasdaq was 13% higher than the previous day’s level. The losses on higher volume means that both the S&P and Nasdaq registered a bearish “distribution day” yesterday, but remember that the previous session’s volume was the lightest day of the year. Despite yesterday’s volume surge, turnover in both exchanges was still below 50-day average levels. The one factor that didn’t lie, however, was the session’s ugly market internals. Declining volume in the NYSE outpaced advancing volume by nearly 4 to 1. In the Nasdaq, the ratio was negative by nearly 3 to 1. While the “distribution day” surely pointed to institutional selling, we will probably not get an accurate indication of traders’ true intentions until average volume levels begin to return after New Year’s Day. Nevertheless, another “distribution day” this week could really load up the market with overhead supply going into the new year, especially if volume rose above average levels in the process.

Nearly every industry sector we follow closed in the red yesterday. Airlines ($XAL) and Home Construction ($DJUSHB) were the exceptions. On the downside, Oil ($XOI) and Oil Service ($OSX) sectors each plummeted by approximately 3%. The selloff caused the $OSX index to break support of a steep uptrend line that had been in place since mid-October:

As you can see, the 20-day moving average has converged with prior support of the uptrend line. The convergence point should now act as solid overhead resistance on any short-term rally attempt. Therefore, advanced traders may consider shorting OIH, the main ETF that tracks the Oil Service index. Novice traders, on the other hand, may consider passing on this trade because stocks and ETFs that break their trendlines near their highs can sometimes be very tricky. Specifically, they can whip you out of your position by running your stop, only to reverse and move in the proper direction the next day. Our long sector watchlist for next month already consists of Gold, Biotech, and Pharmaceutical, so it makes sense to begin building a watchlist of potential sectors to short as well. It’s obviously too early to predict the duration of an Oil correction, but astute traders will want to keep an eye on OIH and other oil-related shares for potential short entry into the next bounce.

In yesterday’s Wagner Daily, we discussed the bullish consolidation that has been taking place in the weekly charts of the S&P and Nasdaq. Although that consolidation is technically still intact, yesterday’s price action caused some technical damage to the shorter-term daily charts. The sudden selloff that seemingly appeared out of nowhere is the exact reason we have been advocating sitting on the sidelines until the holiday season has passed. Low volume markets can be easily whipped around in an erratic fashion because they do not take a lot of trading activity in the opposite direction to spur the volatility.

Looking at the daily chart of the S&P 500 below, notice how the index closed right at support of its prior low after failing to rally above the mid-December high:

Although it’s still choppy on the daily chart, we need to be on the lookout for the formation of a “lower high,” followed by a “lower low.” If the S&P breaks support of the 1,249 level (the November 30 low), it would point to a likely reversal of the intermediate-term uptrend. It would also signify a failure of the bullish consolidation near the 5-year high, which would further exacerbate a potential selloff. The other major indices are showing similar chart patterns of “lower highs” and potential “lower lows” as well. But before you get excited about shorting SPY or QQQQ, you need to remember the time of year; it is simply premature to become overly bearish on the broad market without the proper price and volume confirmation. False breakouts and breakdowns can be abundant in this type of low-volume environment.

Note that the U.S. equities markets will be closed on Monday, January 2. As such, The Wagner Daily will not be published that day, but regular publication will resume on January 3. MTG wishes you and your family a safe and happy ride into the new year!

Today’s Watchlist:

Per the commentary above, we do not plan to enter any new “official” positions between now and New Year’s Day. However, advanced traders may consider shorting OIH over the next few days (review the chart and commentary above).

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):

unrealized P/L = + $138

Closed positions (since last report):

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

$20,133

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