The Wagner Daily | May 24, 2006

Commentary:

An opening gap up and subsequent consolidation throughout the morning hinted at a potential rally yesterday, but the bears took control during the final hour of trading, causing the broad market to reverse its morning gain and finish in negative territory. The Nasdaq Composite’s 1.0% intraday gain faded into a 0.7% loss by the close. The other major indices followed a similar intraday pattern, causing the S&P 500 and Dow Jones Industrial Average to close lower by 0.4% and 0.3% respectively. The small-cap Russell 2000 fell 0.6% and the S&P Midcap 400 lost 0.5%. Each of the broad-based indices finished at their intraday lows, pointing to more institutional selling into the close. Just as a strong market often recovers from intraday losses and rallies into the close, a weak market often gives back intraday gains and sells off in the final hour of trading. The tendency for markets to follow this type of trading pattern is quite a reliable indicator for confirming whether or not the overall bias (bearish in this case) remains the same. Because of the weakness in the final hour, we sold short the DIAMONDS (DIA) yesterday when the Dow Jones set a new low of the day into the close.

Turnover in both exchanges declined yesterday, although it increased during the final hour’s selloff. Total volume in the NYSE declined by 8%, while volume in the Nasdaq was 6% below the previous day’s level. That the bearish reversal occurred on lower volume was better than having another “distribution day,” but it is important to note that volume picked up when the late day selloff began. At 2:00 pm EDT, when stocks were still consolidating near their intraday highs, volume in the NYSE was on pace to be 13% lower than the previous day. However, it increased by 5% in the final two hours, indicating institutional distribution during that short time period. Turnover in the Nasdaq also increased by 5% in the final two hours.

One of the few industry sectors that has not yet broken support of its primary uptrend line is the CBOE Gold Index ($GOX), which led the market with a 2.9% gain yesterday. Although the $GOX has dropped a whopping 19% from its May 10 high, its primary uptrend line that began exactly one year ago remains intact. The ascending blue line on the weekly chart of the $GOX below illustrates this:

As of now, we do not advocate getting long the gold sector because there is still too much volatility. Even though it has bounced off its uptrend line, we want to be sure it will hold and begin to build a base near its current level. If it does, we will consider long entries in the sector after the $GOX index moves back above the 50% Fibonacci retracement level from its May 10 high. We also need to see the return of individual stock leadership within the sector. Former leaders such as Goldcorp (GG) have taken a beating, so we need to see how well they recover from here.

As for the actual price of spot gold, it has been holding up much better than the mining stocks. The StreetTRACKS Gold Trust (GLD) has not yet even corrected down to its 50-day moving average and is only 6.5% below its historical high. Similarly, the iShares Silver Trust (SLV) could also stage another rally attempt back up to its all-time high (be sure to chart the price of spot silver, not SLV, which only has a one-month price history). There could be several reasons why gold has been so strong. Most likely, inflation fears, a weak U.S. dollar, and now a flight to safety are all valid reasons, but the bottom line is that the reasons for its strength are irrelevant. All the matters is the price and volume action, so keep both the $GOX index and GLD on your radar as one of the few sectors that could rather easily recover back to new highs.

Going into today, stocks will need to deal with the downward momentum created by yesterday’s selloff into the close. In the overnight futures market, both the S&P and Nasdaq futures were trading significantly lower than their closing prices, so we are prepared for an opening gap down today. While it may appear that the broad market is “oversold” and due for a bounce, it is very dangerous to try to pick a bottom without first having some sort of confirmation. As of now, we have received no confirmation of a short-term bottom in terms of accumulation days, bullish closes, sector leadership, breakouts, or any other major type of bullish indicator. Therefore, we must assume the downtrend remains firmly intact and, as such, are simply trading in the direction of the primary trend. As discussed in yesterday’s Wagner Daily, selling short any price retracements up to resistance of the hourly moving averages and selling short breaks of key support levels are two strategies that work well in a very weak market.

Today’s Watchlist:

In addition to the new DIA position we sold short yesterday, we are stalking the fixed-income ETFs (such as TLT and IEF) for potential long entry if they break out today. However, we don’t want to list specific trigger prices in the pre-market until we can assess overall market conditions. As always, we will send an intraday e-mail alert if/when we enter any of them.

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 = + $243

Closed positions (since last report):

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

$27,593

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