The Wagner Daily | May 2, 2006

Commentary:

After beginning the day with a modest rally out of the starting gate, stocks drifted in a narrow, sideways range throughout most of the session, but a rapid selloff in the final forty-five minutes of the session registered losses in the broad market. The Nasdaq Composite again showed the most relative weakness and finished 0.8% lower. The S&P 500 fell 0.4%, while the Dow Jones Industrial Average lost only 0.2%. Mid-cap stocks held up pretty well, enabling the S&P Midcap 400 Index to post a 0.2% gain, but the small-cap Russell 2000 slid 0.5%. Each of the major indices finished near the bottom of their intraday ranges, pointing to institutional selling throughout the “professional hour” (the final hour of each trading day).

Despite yesterday’s losses, volume declined in both exchanges. Total volume in the NYSE was 3% lighter, while volume in the Nasdaq was 17% lower than the previous day’s level. Turnover did, however, increase a bit during the final hour of the session. Volume also came in above 50-day average levels in both exchanges. From March 20 through April 17, volume in the NYSE was so light that it exceeded its average level in only one of those twenty days. But since then, volume has exceeded its average level in nine of the past ten days. Comparing this pattern with the price action in the broad market, we see that volume has been at its highest level while the S&P has been consolidating near its highs over the past several weeks. When volume levels are increasing, but prices are not increasing along with the higher turnover, this is bearish action referred to as “churning” and indicates institutional selling into strength. Conversely, increasing volume levels would be very positive if the market was moving higher as well, but that has not been the case. Often, this “churning” near resistance of a prior high precedes a breakdown in the broad market. As we pointed out last week, several of the broad-based ETFs registered record high volume levels on April 27, but without a significant gain in prices. We still believe that day was significant, as professional traders are aware that volume is one of the few technical indicators that never lies.

One interesting pattern of sector rotation we have seen over the past several days has been the divergence between the Banking Index ($BKX) and the Broker-Dealer Index ($XBD). As we have discussed over the past several days, the banking stocks and ETFs (such as RKH) have been acting great since breaking out to a new all-time high on April 27. However, the $XBD index, which is comprised of securities broker-dealers such as Goldman Sachs, Merrill Lynch, and Charles Schwab, completely ignored the $BKX breakout on April 27. On April 28, the Broker-Dealer Index fell 2.1% as the Banking Index gained another 1.9%. The downward momentum in the $XBD really began picking up steam yesterday, as the index lost another 3.2%. More importantly, it closed below support of its 50-day moving average for the first time since October 18, 2005. As the daily chart below illustrates, the $XBD had been in a steady uptrend for the past six months, but the index broke support of that uptrend yesterday:

What we have seen over the past few days is a normal pattern of institutional money flowing out of an “overbought” sector and into one that has lagged behind. As trend traders, our job is to constantly look for where the “big money” is flowing and simply trade in the same direction. Thanks to the advent of exchange traded funds, sector trading is usually quite simple because one only needs to purchase one security in order to have diversified exposure to a whole sector. As you know, the Regional Bank HOLDR (RKH) is probably the best bet for capturing anticipated gains in the Banking Index. The S&P Select Financial SPDR (XLF) is another viable choice, but it has laggged the Regional Bank HOLDR since the breakout. Unfortunately for those of you who wish to sell short the Broker-Dealer Index at the same time, there is not yet an ETF that specifically tracks the $XBD. However, you may wish to make your own “synthetic ETF” by simultaneously trading a small basket of individual stocks that comprise the index. You can view the twelve underlying stocks that make up the $XBD index by clicking here.

Taking an updated look at the major indices, the most notable thing that happened yesterday was the Nasdaq Composite’s close below its 50-day moving average:

As the chart above illustrates, it was the Nasdaq’s first close below its 50-day MA since March 13. Nevertheless, it did manage to find support at its prior low from April 17, just below the 2,300 level. Going into today, keep a close eye on how the Nasdaq acts near that prior low. It could easily hold support and bounce back above the 50-MA from here, which would not be surprising considering how long the index has been in a trading range. On the other hand, a drop below the prior low could send the Nasdaq quickly down to its 200-day moving average, which is just below the low of March. As for the S&P 500, it’s the same old story — the 1,310 area remains a brick wall of resistance. Until the market proves otherwise, we must assume the erratic, range-bound chop goes on. . .

Today’s Watchlist:

RKH – Regional Bank HOLDR
Long

Trigger = 12 cents over the high of first 20 minutes (see notes)
Target = new high (will trail stop)
Stop = 148.80
Shares = 200

Notes = Due to new highs and relative strength in the Banking Index ($BKX), we are now stalking RKH for a potential long entry on a correction. Since it did not trigger yesterday, the new trigger price will be 12 cents over the highest price traded in the first 20 minutes of today’s session. This means that we will only buy it IF it subsequently takes out its 20-minute high. Otherwise, we will wait another day and re-assess today’s action.

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 = + $416

Closed positions (since last report):

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

$28,000

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