Commentary:
The Nasdaq capped an impressive week with another day of gains last Friday, its fifth straight higher close. The Nasdaq Composite, small-cap Russell 2000, and S&P Midcap 400 indices each rallied 0.7%, while the S&P 500 and Dow Jones Industrial Average gained 0.5% and 0.3% respectively. Despite the three-day holiday weekend, volatility was decent and stocks trended steadily higher throughout the session before closing at their intraday highs. The Nasdaq, which lagged in the latter half of last year, is off to a solid start in 2007. Since the beginning of the month, the tech-dominated index has already gained 3.6%, but the S&P 500 has advanced only 0.8%. Given that December marked the seventh consecutive month of gains for the S&P, it’s not surprising that the index is taking a break so far in the new year.
Turnover was lower across the board last Friday, but still exceeded 50-day average levels. Total volume in the NYSE declined by 9%, while volume in the Nasdaq was 10% lighter than the previous day’s level. In both exchanges, advancing volume exceeded declining volume by a solid ratio of 2.2 to 1. Last week, the Nasdaq posted three consecutive days of higher volume gains (aka “accumulation days”) that pointed to institutional buying activity. Conversely, the index has registered only one bearish “distribution day” within the past four weeks. The Nasdaq has been pretty healthy “under the hood,” but buying pressure in the NYSE has been much more subdued.
In the latter half of last week, we pointed out several sector ETFs that were showing both relative strength and bullish reversal patterns. Going into this week, those same ETFs still look pretty good. Each of the following closed last week above resistance of downtrend lines that had been in place for approximately one year: Semiconductor HOLDR (SMH), Biotech HOLDR (BBH), and Internet HOLDR (HHH). Not surprisingly, each one is a Nasdaq-related sector. When a stock or ETF reverses and breaks out above a downtrend line, the amount of bullish momentum is directly correlated to the length of the downtrend that it broke out above. The longer the prior trend was in place, the stronger the subsequent reversal tends to be. Therefore, if looking to buy new ETF positions this week, these three ETFs are among your best bets. We are already long SMH, and will be stalking both BBH and HHH for potential long entry points in the coming days.
As for sectors with relative weakness and bearish chart patterns, Utilities, Oil, and Gold are about the only ones. However, we would not consider selling short these sectors right now because they are a bit “oversold” in the short-term and could easily bounce over the next week before resuming their new downtrends. But upon scanning of more than 300 ETFs of all categories, we did notice one group that is indeed setting up nicely on the short side. Many of the international ETFs, and emerging markets in particular, have all begun to roll over.
Last year, the international ETFs in general were among the highest percentage gainers in the U.S. stock market. As such, it’s not shocking that many are now correcting from their awesome gains. From the start of the new year through January 10, many international ETFs took a beating, then bounced last Thursday and Friday. However, they will likely see another leg down over the next week or two before finding any type of substantial support. At the very least, they should at least re-test their January 10 lows. This means that the current bounce may provide a near-term short selling opportunity in this group. The iShares Emerging Market Index (EEM) and the iShares Xinhua China 25 (FXI) are two ETFs in particular that have intriguing chart patterns right now. Take a look:
On January 3, both EEM and FXI gapped up to new record highs, but their breakouts immediately failed the following day. The exhaustion of the parabolic rally in FXI, and EEM to a lesser extent, led to a fast and furious reversal in the days that followed. The steep selloff was also confirmed by sharply higher volume that was indicative of institutional selling. Over the last two days, both ETFs have bounced, but only into resistance of their 20-day moving averages. Also notice how volume has declined on both of the “up” days. Finally, both EEM and FXI have bounced to Fibonacci resistance levels as well. EEM has rallied to just above its 50% Fibonacci retracement levels, while FXI is at its 38.2% retracement level. Both ETFs are therefore at ideal entry points for short selling. The Fibo retracement lines are illustrated on the shorter-term hourly charts below:
The Nasdaq Composite finished last week convincingly at a fresh six-year high, but both the S&P and Dow closed right at resistance of their December 2006 highs. Will the latter indices follow in the footsteps of the Nasdaq by breaking out to new highs as well? The determining factor will be the market’s reaction to the deluge of quarterly corporate earnings reports scheduled to be released this week. We have learned from experience that quarterly earnings season often has the nasty effect of causing stocks to ignore their technical chart patterns. Be cognizant of the dates of corporate earnings reports in the coming weeks because a negative earnings surprise by a leading company this early in earnings season could have a rather negative impact on the state of the broad market. It’s also worth reminding you that the actual earnings numbers don’t matter. Rather, the only thing that matters is the market’s reaction to the numbers. Among many others, Intel’s report card is due out today. Apple’s numbers will be released tomorrow.
Today’s Watchlist:
EEM – iShares Emerging Markets Index
Short
Shares = 200
Trigger = 110.89 (below the 50% Fibo retracement)
Stop = 114.18 (above 76.4% Fibo retracement)
Target = 104.40 (probe below Jan. 10 low)
Dividend Date = Dec. 2007
Notes =
See commentary above for explanation of this setup. Note that an opening gap up also presents an ideal short-entry point, so be on the lookout for a possible intraday trade alert to update of any change to the trigger price. Also, we are still stalking both BBH and HHH for potential long entries, but first want to see how the market digest’s the key earnings reports on tap.
Also, be aware that EEM may be on your broker’s “hard to borrow” list. This means your brokerage firm’s web site may initially tell you that shares are not available for shorting. But if this occurs, we recommend you phone your broker and specifically ask them to locate shares of EEM to borrow for short selling. With a little push, your firm should easily be able to call around and get shares for you within a matter of minutes. If not, consider switching to a different firm who offers a wider selection of stocks and ETFs for shorting. Just a little advice for those of you who run into this issue.
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:
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Open positions (coming into today):
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SMH long (400 shares from Jan. 11 entry) – bought 35.17, stop 33.81, target 38.45, unrealized points = (0.08), unrealized P/L = ($32)
Closed positions (since last report):
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SDS long (400 shares from Jan. 3 entry) – bought 58.90, covered 57.08, points = (1.82), net P/L = ($736)
Current equity exposure ($100,000 max. buying power):
- $14,036
Notes:
SDS stopped out in the last two minutes of trading.
Edited by Deron Wagner,
MTG Founder and
Head Trader