An indecisive session kept both the bulls and bears on their toes yesterday, but the bulls eventually managed to push stocks higher for the first time since December 12. After opening higher, the major indices quickly turned tail, weighed down by cautious comments from financial giant Goldman Sachs. By mid-day, the broad market had fallen into firmly negative territory. Buying interest emerged in the afternoon, for a change, enabling the broad-based indexes to score solid gains. The Nasdaq Composite climbed 0.8%, the S&P 500 0.6%, and the Dow Jones Industrial Average 0.5%. The small-cap Russell 2000 fully recovered the previous day’s loss with a 2.0% gain. The S&P Midcap 400 advanced 0.7%. The main stock market indexes finished in the upper third of their respective intraday ranges.
Total volume in the NYSE rose 5%, as volume in the Nasdaq ticked 2% above the previous day’s level. Although it’s typically positive when the S&P and Nasdaq gain on higher volume, a closer look at yesterday’s volume patterns tells a different story. At mid-day, after stocks had trended lower all morning, volume in the NYSE was tracking 10% higher than the prior day’s level. Nasdaq volume was on pace to rise by 15%. But since trading activity finished only 5% higher in the NYSE and 2% higher in the Nasdaq, turnover actually backed off when stocks reversed higher in the afternoon. Conversely, it would have been more encouraging if turnover was coming in lighter during the morning sell-off, then picked up steam alongside of the afternoon rally.
The iPath India Index (INP), perhaps the strongest international ETF in recent months, formed a bullish “hammer” candlestick after testing support of its 50-day MA yesterday. This is illustrated on the daily chart below:
Since the December 17 sell-off was pretty vicious, we don’t expect INP to immediately snap back to its prior high. However, INP should at least consolidate and build a base of support in this area because it was the first touch of the 50-day MA in more than 3-months. When a stock or ETF has been trending strongly higher for several months, the first test of the 50-day MA, on a pullback, often presents a good buying opportunity. Rarely will a strong ETF slice right through its initial touch of the 50-day MA without attempting to resume its primary uptrend at least once. This is not necessarily the case with subsequent tests of the 50-day MA in shorter periods of time. Overall, we suggest adding INP to your near-term long watchlist, but give it a few days to make sure it stabilizes and builds a small base near this key support level.
In yesterday’s commentary, we mentioned that the S&P 500, Dow Industrials, and Nasdaq Composite are each in the process of completing a bearish “head and shoulders” chart pattern on their respective long-term weekly charts. Since the three indexes are showing similar chart patterns, let’s take a look at the financial media’s favorite market barometer, the Dow Jones Industrial Average. Below is the weekly chart of the Dow Jones DIAMONDS (DIA), a well-known proxy ETF for the index itself. We have removed all moving averages so that you can more easily see the chart pattern:
As annotated above, the “left shoulder” formed throughout July, the “head” formed with the October peak, and the “right shoulder” began shaping up this month. The “neckline,” which ascends slightly, is formed by connecting the August and November lows. Notice that volume was higher during the formation of the left shoulder than when both the head and right shoulder were formed. This is bearish because it indicates declining buying interest on each subsequent rally attempt of the head and right shoulder. Traders often forget to analyze volume patterns throughout the formation of the head and shoulders pattern, but the correct volume pattern increases or decreases the odds of the pattern following through to the downside.
Though the head and shoulders pattern is setting up clearly, remember that we’re looking at a weekly, not daily chart. As such, it could easily take another month or two for the Dow to fall below its neckline and begin following through to the downside. If/when the neckline eventually breaks, the predicted downward drop is equal to the measured distance from the top of the head down to the neckline. (NOTE: For a great example of this, check out the daily chart of the Russell 2000 Index (or IWM), which formed a head and shoulders pattern from September through November of this year, then perfectly followed through with its predicted drop by the end of November.) In the current case of the Dow weekly chart, there was a 10% drop from the top of the head down to the right side of the neckline. Another 10% below the neckline would put DIA around $114 (approximately 11,450 for the Dow index).
If the Dow breaks its neckline in the near future, a correction down to the 11,450 area may seem quite substantial. . .until you consider how high the Dow has surged within the past five years. From its October 2002 low to its October 2007 high, a span of exactly five years, the Dow amazingly doubled! Therefore, a complete follow-through of the head and shoulders pattern down to 11,450 would only be equivalent to a 38.2% Fibonacci retracement of that entire range. Both the S&P 500 and Nasdaq Composite have more than doubled during that five-year period as well, and both are showing similar head and shoulders patterns on their weekly charts. Rather than breaking their necklines, the major indices could just as easily move sideways and “correct by time” throughout the early part of 2008. Still, the astute trader is one who remains fully cognizant of the “big picture” at all times. Doing so keeps emotions in check and assists in “trading what you see, not what you think.”
GLD – StreetTRACKS Gold Trust
Shares = 200
Trigger = 79.71 (above yesterday’s high)
Stop = 77.68 (below the 50-day MA)
Target = new high (will trail stop)
Dividend Date = n/a
Notes = This setup from yesterday’s intraday e-mail alert did not yet trigger, but remains on our watchlist going into today. GLD has gapped up above its 20-day EMA and is testing the high of the big down day on December 13. If it rallies above that level, we plan to buy a partial position of GLD. We will then buy additional shares on the breakout above the downtrend line from the November 8 high.
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):
PPH long (300 shares from December 4 entry) – bought 82.03, stop 80.31, target 86.38, unrealized points (0.94), unrealized P/L ($282)
Closed positions (since last report):
Current equity exposure ($100,000 max. buying power):
The GLD long setup we sent via intraday e-mail alert did not yet trigger. No changes to our sole open position.
Edited by Deron Wagner,
MTG Founder and