After opening near unchanged levels yesterday, the major indices quickly entered into a steady downtrend that persisted throughout the entire session. By the closing bell, each of the main stock market indexes had fallen at least 2%, giving back all their gains of the past two days. Still, considering how far stocks bounced off their mid-July low, in such a short period of time, yesterday’s correction was not really that terrible. The Nasdaq Composite shed 2.0%, the S&P 500 2.3%, and the Dow Jones Industrial Average 2.4%. The small-cap Russell 2000 fell 2.3%, as the S&P Midcap 400 tumbled 3.0%. All the broad-based indexes settled at their lowest levels of the day.
Lessening the blow of yesterday’s sell-off was the fact that volume ticked lower across the board. Total volume in both the NYSE and Nasdaq receded 7% below the previous day’s levels. This tells us that the bearish price action was more the result of an overall lack of buying interest, rather than heavy selling into strength on the part of institutions. As such, the price to volume relationship of the broad market remains positive. Following up three days of higher volume gains (“accumulation”) with a session of lighter volume losses is bullish, regardless of yesterday’s substantial losses. If, however, the market continues to retrace while turnover picks up, it will serve as a warning signal that the rally attempt off the mid-July lows may be in danger. Although stocks dropped on lighter volume, firmly negative market internals were a concern. In the NYSE, declining volume exceeded advancing volume by a margin of nearly 7 to 1. The Nasdaq adv/dec ratio was negative by more than 4 to 1.
After scanning the charts of hundred ETFs, looking for low-risk buying opportunities after the pullback, we frankly were not impressed. Most industry sectors have bounced off their lows, but have resistance of their 20 and 50-day moving averages overhead. Furthermore, many remain well within the trend channels of their primary downtrends that have been in place for months. Ultra short-term traders may benefit from trading the momentum of counter-trend bounces, but yesterday’s sharp pullback proves the necessity of being physically and mentally able to get out quickly when pressure of the dominant downtrends resumes.
As for short selling, we are seeing a lot of relative weakness in the Basic Materials sector, which has completely ignored the rally within the U.S. markets over the past two weeks. As such, it’s not surprising that the sector fell sharply lower yesterday, alongside of the broad market. When a sector is so weak that it can’t even rally with the broad market, it is generally one of the first sectors to fall apart as soon as the broad market corrects. If you’re looking to take advantage of a bearish play right now, consider selling short the Basic Materials sector. A great way to do so is through buying the inversely correlated UltraShort Basic Materials ProShares (SMN), which moves in the opposite direction of the underlying sector. On the daily chart below, notice how SMN was trading in a sideways range after breaking out above its downtrend and moving back above its 50-day MA. Then, it broke out above its recent range yesterday:
Since SNM has broken out, any pullback to the pivot (the breakout level shown above, around $35.50) presents an ideal buy point. Traders do need to be aware of the 200-day moving average, 2.5 points above the breakout level, but momentum from the four-week base of consolidation could easily push SNM through that resistance level. If not, SNM can still be sold into strength of that move for a quick gain of 2 points or so. As with the entire UltraShort family of ETFs, the best thing about SNM is that you can easily take a bearish position in a non-marginable, cash account such as an IRA because you are buying, not selling short.
If you, like ourselves, are having a difficult time finding trade setups with a good reward/risk ratio and high probability of success right now, that’s the stock market trying to tell you something! Are you listening? Right now, the lack of quality setups tells us that many stocks and ETFs are in “no man’s land,” stuck between key support and resistance levels. They have about equal odds of moving in either direction in the short-term. When faced with such an environment, it’s extremely important to avoid overtrading. If you don’t ease up on both the quantity and share size of your trades, you’ll likely “churn” your trading account, steadily bleeding capital out of it (“nickel and diming yourself to death,” as my grandmother used to say). Don’t forget that cash is a perfectly legitimate position! Now is a great time to be sitting in it, waiting for the market to show its hand for the intermediate-term direction.
As per the commentary above, we’re seeing very few quality ETF setups right now. Those that have already rallied sharply (such as biotechs) need to pullback or take a rest. Others that are reversing their downtrends have too much overhead supply to make a good reward/risk ratio. As always, we will promptly send an Intraday Trade Alert if/when we enter anything new, but don’t count on that right now. Cash is king, especially as we come into the final week of another winning month.
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):
- No changes to our EWH position.
EWH long (600 shares from July 22) – bought 16.87, stop 15.89, target 19.30, unrealized points = (0.12), unrealized P/L = ($72)
Closed positions (since last report):
Current equity exposure ($100,000 max. buying power):
Edited by Deron Wagner,
MTG Founder and