As anticipated, support of their 10-day moving averages enabled the major indices to bounce last Friday, recovering most of the previous day’s losses. The Nasdaq Composite climbed 1.2%, the Dow Jones Industrial Average 0.6%, and the S&P 500 0.5%. The small-cap Russell 2000 gained 0.7%, but the S&P Midcap 400 showed relative weakness by only reversing 0.2% of the previous day’s 0.7% loss. Making mild advances last week, the main stock market indexes finished near the middle of the week’s trading ranges.
Unfortunately for the bulls, substantially lower turnover accompanied last Friday’s reversal attempt. Total volume in the NYSE declined 28%, while volume in the Nasdaq was 24% lighter than the previous day’s level. On Thursday, trading activity swelled to its highest levels in months, indicating the presence of institutional selling. The firmly lower volume that matched the following day’s bounce tells us the buying was driven primarily by retail investors. Because trading by institutions such as mutual funds, hedge funds, and pension funds comprise a majority of the market’s volume on any given day, the stock market tends to move in the direction of their trading activities. That’s why we pay attention to not only the market’s daily price action, but also the changes in turnover that accompany the gains or losses. Doing so is a reliable way of seeing the footprints of institutional trading activity. Further, it enables us to always know what is happening “under the hood” of the market.
Because of the high volume and bearish “engulfing” candlesticks that formed in the major indices last Thursday, the stock market is likely to be under a bit of pressure as the new weeks commences. If the main stock market indexes quickly move back above their intraday highs of October 11, there will once again be a complete lack of overhead supply and technical resistance levels. But since that is unlikely to happen in the near-term, let’s take a look at where the broad market is likely to find its next significant areas of support in the event of further selling pressure in the coming days. We’ll begin with a daily chart of the benchmark S&P 500 Index:
Support of the 10-day moving average (the dotted purple line) helped the S&P to bounce last Friday. In strongly trending markets, the 10-day MA is often the only pullback one will get before stocks continue higher. Notice how the index has bounced off support of its 10-day MA on three separate occasions since the big green candle of September 18. Bullish price consolidations and positive volume patterns enabled the S&P to continue to new highs when the index touched its 10-day MA on September 25 and October 1. However, we believe the negative price and volume patterns of October 11 will cause a break of the 10-day MA this time. If that happens, the S&P 500 will also have fallen below support of its prior highs from July, putting the index in danger of a potential “double top” formation. Nevertheless, support of the 20-day EMA could prevent the S&P from falling much further, at least in the near-term. Presently, the 20-day EMA lies at the 1,535 level. That level also coincides with support from a small band of prior price consolidation. If the S&P breaks below its 20-day EMA, the intraday low of September 25 (marked by the dashed horizontal line) should provide the next significant area of support.
The Nasdaq Composite, which has led the broad market higher over the past month, looks much better than the S&P 500, at least in the intermediate-term. Unlike the S&P, the Nasdaq remains well above support of its prior high from July, which happens to converge with support of the 20-day EMA. This is annotated with the dashed horizontal line on the daily chart below:
Again, the 10-day MA lies just below last Friday’s low, but a break of that level should send the Nasdaq down to convergence of its prior high from July and 20-day EMA, around the 2,727 level. This is a major area of support that should hold if the Nasdaq is to remain healthy and a new leader of the market. The most bullish thing the Nasdaq could do is calmly retrace to its 20-day EMA, then enter a “correction by time” through trading in a tight, sideways range for several weeks. Such action would enable the more substantial 50-day MA to catch up to meet the price of the Nasdaq, enabling better odds of follow-through on the next rally attempt.
Finally, the Dow Jones Industrial Average keeps toying with support of its prior high from July. It dipped below it on October 11, but snapped back above it the following day. Still, the index has been having trouble making a convincing breakout to a new all-time high. The red dashed horizontal line illustrates this:
If the Dow manages to close firmly above last week’s high, it should set a rather bullish tone for the overall sentiment of the stock market. Conversely, a solid break below last week’s low will put the index in jeopardy of forming a “double top,” just like the S&P 500. The 20-day EMA lies just below the October 11 low, so a breakdown below last week’s lows will also cause a break of the 20-day EMA. In that case, the next key area of support will be found at the September 25 low of 13,696. The blue dashed horizontal line shows that level also coincides with support of the prior highs from both June and August of this year.
Quarterly earnings season kicks into high gear this week, so investors and traders will soon see the extent of the damage from the summer credit crunch. As always, be aware of market-leading companies that could move the entire stock market if they surprise Wall Street with any shocks to the system. Citigroup (C) and Genentech (DNA) both report today, while companies such as Intel (INTC), IBM, and Yahoo (YHOO) all report tomorrow.
There are no new setups in the pre-market today, as we are near the maximum buying power of the $50,000 position model.
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):
LQD long (350 shares from August 31 entry) – (see notes below regarding dividend distributions)
bought 104.99 (avg.), stop 104.32, target 107.48, unrealized points + 1.00, unrealized P/L + $350
IWM short (350 shares from October 11 entry) – sold short 83.72, stop 85.21, target 80.70, unrealized points (0.10), unrealized P/L ($35)
HHH short (300 shares from October 12 entry) – sold short 66.36, stop 68.68, target 61.80, unrealized points (0.97), unrealized P/L ($291)
Closed positions (since last report):
GDX long (250 shares from October 10 entry) – bought 46.65, sold 47.35, points + 0.70, net P/L + $170
Current equity exposure ($100,000 max. buying power):
Per intraday e-mail alert, we sold the GDX position into the morning bounce. We also entered a new short position in HHH. However, there was a typo in the stop, as it was supposed to be just above the October 11 high (like the IWM stop). New stop shown above is correct. Also, note the new stop on LQD, just below the 50-day MA.
On September 4, LQD traded ex-dividend, with a dividend distribution of 49 cents per share. On October 1, LQD traded ex-dividend and paid out 48 cents per shares. Unrealized points and P/L figures include these distributions.
Edited by Deron Wagner,
MTG Founder and