Stocks scored their third straight session of gains since recovering from last week’s sell-off, but several key resistance levels caused the major indices to surrender nearly half of the day’s gains in the late afternoon. After trending higher throughout most of the day, then pulling back in the final ninety minutes, the Nasdaq Composite gained 0.9%, the S&P 500 0.5%, and the Dow Jones Industrial Average 0.4%. The small-cap Russell 2000 again showed a bit of relative strength by climbing 1.0%, but the S&P Midcap 400 lagged behind by closing just 0.3% higher. All the main stock market indexes finished near the middle of their intraday ranges, essentially putting the bulls and bears on parity into the close.
Turnover crept higher across the board. Total volume in the NYSE was 3% greater than the prior day’s level, while volume in the Nasdaq picked up 6%. Although it was the second day of increased trading activity in the broad market, volume in both exchanges remained below average levels for the fifth straight day. As with the previous day’s session, stocks again climbed on mediocre market internals. Advancing volume in the NYSE exceeded declining volume by a margin of only 3 to 2. The Nasdaq adv/dec volume ratio was positive by just over 2 to 1.
For those of you long any of the numerous oil-related ETFs, the sector flashed some very important warning signs yesterday that a top may be forming in the near future. First was the intraday price action of the crude oil commodity, which is demonstrated on the 15-minute intraday chart of the U.S. Oil Fund (USO), an ETF proxy that roughly follows the price of crude:
After opening 1.4% lower than the previous day’s close, USO quickly reversed its opening weakness and rocketed higher as the government said crude inventory had dropped to its lowest levels since 2004 during its 10:30 am ET weekly report of crude oil reserves. This bullish news for crude oil should have had an overly positive effect on its price action throughout the rest of the day. Instead, however, traders aggressively sold into strength of the knee-jerk reaction, causing crude to drop back down to its opening level just one hour later. The heavy selling continued into the afternoon, eventually leading both the crude oil commodity and USO to close the session with a 3.4% loss. When a steadily uptrending stock or commodity drops sharply in the face of positive news, as crude oil did yesterday, it is often a warning sign of exhaustion. Conversely, it’s typically a bullish sign when traders ignore negative market news and send a stock or commodity higher regardless of bad news. Next, take a look at the daily chart of USO:
The overly negative reaction to yesterday’s crude inventory report caused USO to close below its previous day’s low, forming a bearish “shooting star” candlestick pattern in the process. Since USO rallied sharply and closed near its intraday high on Wednesday, yesterday’s swift reversal to break Wednesday’s low had the effect of trapping the bulls who just bought the short-term pullback from last week’s highs. As such, those trapped bulls were forced to quickly liquidate their positions yesterday, which led to a large volume spike in both USO and the actual crude oil futures contracts. Looking at the daily chart above, note that yesterday’s single day volume of nearly 22 million shares was the highest USO has experienced since the ETF began trading more than two years ago! When record turnover corresponds with a heavy percentage loss near the top of an extended uptrend, it is a legitimate warning sign of possible exhaustion. Remember volume is the one technical indicator that never lies, and is also a leading, rather than lagging, indicator. Astute traders who know the extreme importance of closely monitoring volume patterns will certainly not ignore yesterday’s USO volume surge.
We used technical analysis to give those who may be long the oil-related ETFs a heads-up of a possible top. However, realize the warning derived from yesterday’s price and volume in USO was exactly that — a warning. That means it could easily take days, or even a couple weeks, for serious selling to materialize from here. With USO still trading above support of its 20-day EMA, the primary uptrend is technically still intact. Because of this, it may still be too early to initiate short positions unless you’re an advanced trader comfortable with micromanaging positions that can reverse quickly. Alternatively, strictly daytrading USO on the short side is a good way to capture gains from ultra near-term weakness, but without the risk of holding it overnight. If you have difficulty locating shares of USO to sell short, you might consider buying the inversely correlated UltraShort Oil & Gas ProShares (DUG). If you’re neither an advanced trader nor a daytrader, the safest bet is to wait for an eventual sell-off down to support of the 50-day MA, then look to short the subsequent bounce that attempts to take USO back up to resistance of its 20-day EMA. If no bounce occurs, just wait for a period of price consolidation near the lows, which equally serves as a “correction by time.”
Yesterday’s late-day sell-off in the broad market occurred as several of the main stock market indexes ran into significant levels of technical resistance. The Nasdaq Composite, the only one of the “big 3” major indices still holding above its intermediate-term uptrend line, stalled after probing a few points above pivotal resistance of its 200-day moving average. Worse, the index is still in the precarious position of forming the right shoulder of a bearish “head and shoulders” pattern, which we illustrated in our May 28 commentary.
The benchmark S&P 500 quickly turned tail after running into its 50% Fibonacci retracement level from the May 19 high to its May 27 low. Put simply, the index began selling off yesterday after recovering half of last week’s sharp losses. The S&P closed a couple points above its 20-day exponential moving average, but is in danger of re-testing its 50-day MA just a couple days after bouncing off it.
The weakest of the “big 3” broad-based indexes, the Dow Jones Industrial Average reversed after running into resistance of its 50-day MA and coming within a few points of its 20-day EMA. After the Dow broke below support of its 50-day MA on May 21, that key moving average became the new resistance level. As such, it’s not surprising that the Dow ran stops above the 50-day MA, but failed to actually close above it.
Due to the positive reward-risk ratio of such an entry, we initiated a partial short position in the Dow when it ran into its 50-day MA yesterday. Rather than selling short the Dow DIAMONDS (DIA), which cannot be done in a non-marginable account such as an IRA, we bought the inversely correlated UltraShort Dow 30 ProShares (DXD). Since we entered DXD before the Dow actually started to reverse back down, we played it conservatively by only buying a half position. However, because our initial shares are now showing a small unrealized gain, we plan to buy the remaining shares of DXD if the Dow falls below yesterday’s low. Such a move would increase the likelihood of the Dow quickly moving back down to last week’s lows and resuming its long-term downtrend that has been in place since last October. Our long positions in RSX, SMH, and GLD were all closed yesterday, the first two with a small gain, the latter with a small loss. With only one open ETF position, we now have the luxury of being nimble and reacting to the market’s next significant move.
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We will buy the second half (175 shares) of DXD if it rallies above $53.67 today. That would give us an average price of about $53.12 on the full position. If the second half triggers, our stop on the FULL position will initially be $51.72 (just below yesterday’s low).
As per the above commentary, we will also be monitoring USO and other oil-related ETFs for an ideal short entry. HOWEVER, due to the possibility of volatile trading near its highs, novice traders may wish to pass on any new short entry in oil at current levels. Specifically, we would like to see an opening gap UP in the price of crude today. That would provide us with a decent reward-risk ratio for short entry, despite support of the 20-day EMAs and uptrend lines below. A gap DOWN, on the other hand, would leave too high a possibility for a swift bounce that could stop us out too easily. As always, we’ll promptly send an Intraday Trade Alert if any new trade entries are made.
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):
- It was a busy day. Per Intraday Trade Alerts, we trailed tight stops on SMH and RSX, both of which were hit, due to the vast amount of overhead supply the market was approaching.
- GLD gapped down huge, causing us to give back our unrealized profit, but there’s not much you can do about large opening gaps. Unfortunately, that’s often one of the downsides of trading commodity-based ETFs. Nevertheless, our original entry was low enough that we sustained just a small loss.
- Per Intraday Trade Alert, we bought a half position of DXD when the Dow rallied into resistance of its 50-day MA. The initial entry is now showing a small gain. We plan to add the remaining 175 shares of the position on a rally above yesterday’s high (see details under “Today’s Watchlist”). Such a move would provide more confirmation that the downtrend is ready to resume.
DXD long (175 shares from May 29 entry) – bought 52.56, stop 51.72, target 57.85, unrealized points = + 0.29, unrealized P/L = + $51
Closed positions (since last report):
RSX long (350 shares from May 28 entry) – bought 56.65, sold 57.47, points = + 0.82, net P/L = + $280
SMH long (600 shares from May 27 entry) – bought 32.33, sold 32.65, points = + 0.32, net P/L = + $180
GLD long (250 shares from May 15 entry) – bought 87.33, sold 86.65, points = (0.68), net P/L = ($175)
Current equity exposure ($100,000 max. buying power):
Edited by Deron Wagner,
MTG Founder and