Stocks concluded the last day of the third quarter in indecisive fashion, as the major indices whipsawed in both directions. Although it opened near the flat line, the S&P 500 plunged to a 1.3% loss within the first thirty minutes of trading. But rather than building on that bearish momentum, the broad-based index quickly stabilized and clawed its way back to the unchanged level by early afternoon. Then, in the final hour of trading, the S&P sold off again, though less severely than in the morning. The S&P 500 eventually settled with a 0.3% loss, as did the Dow Jones Industrial Average. The Nasdaq Composite edged just 0.1% lower, but the small-cap Russell 2000 fell 1.0%. The S&P Midcap 400 declined 0.6%. The choppy, intraday tug-of-war between the bulls and bears caused the main stock market indexes to close just above the middle of their intraday ranges.
Higher turnover accompanied yesterday’s losses, causing both the S&P 500 and Nasdaq Composite to register another “distribution day.” Total volume in the NYSE increased a whopping 34% above the previous day’s level, while volume in the Nasdaq similarly rose 30%. Trading in both exchanges also moved back above 50-day average levels. Looking purely at intraday price action, one could understandably make the assessment that yesterday’s session was nearly a draw between the buyers and sellers. However, the sharply higher volume that accompanied yesterday’s losses tells us the sellers had the upper hand. Furthermore, the S&P 500 has now registered four days of higher volume losses in recent weeks. If one more appears, it will be a reliable signal that a substantial pullback in the broad market is coming soon. Healthy markets can generally absorb a couple days of selling amongst mutual funds, hedge funds, and other institutions, but it’s very rare for a rally to hold up in the face of five or more “distribution days.”
PowerShares Agriculture (DBA), an ETF comprised of a basket of futures contracts including corn, wheat, and soybeans, has suddenly begun showing relative strength, and is accompanied by a bullish chart pattern. Presently, it is breaking out above resistance of a four-month downtrend line, after moving above its 200-day MA just two days ago. If it convincingly moves above the high of the past two days, DBA will break out above its prior “swing high,” thereby triggering a valid buy entry. The bullish setup is shown on the daily chart of DBA below:
If buying DBA on a breakout, be aware of its rather low volatility. On an average day, DBA moves just fifty cents in either direction. Notice that a rally back to its August 2009 high, for example, only correlates to a gain of approximately one point from its current price. As such, you may want to adjust your share size higher, while ensuring that your maximum capital risk per trade is still in line, given the required stop price. Alternatively, consider trading the leveraged Agriculture Double Long (DAG), which has been tracking DBA rather closely. Although the average intraday range of DAG is about the same as DBA, it is a much less expensive ETF, thereby potentially yielding more “bang for the buck.” One caveat, however, is that DAG has an average daily volume of only 350,000 shares. DBA, on the other hand, trades approximately 2 million shares on an average day. While liquidity is technically not a big issue for ETFs, those with lower volume will often have wider bid/ask spreads.
In yesterday’s Wagner Daily, we used numerous charts to convey our point that most ETFs are now in “no man’s land,” trapped between support of their prior highs from August and resistance of their recent highs from September. . . all in the face of volume patterns that are becoming increasingly negative. Of this situation, we said, “The wisest plan of action, at least in the near-term, may be to lay low with regard to new trade entries, at least until the market shows its hand. . .When trend resolution presents itself from here, positions can be jockeyed to shift net exposure in the direction of the short to intermediate-term trend.” Considering the short-term indecision we illustrated on our September 30 charts, yesterday’s erratic price action in the broad market could merely be considered par for the course.
Frankly, we’re a bit perplexed by the stock market’s recent behavior. Aside from the usual names such as Apple (AAPL), Google (GOOG), and Baidu (BIDU), there has been very little in the way of institutional-quality leadership. Growth stocks with patterns of rapidly accelerating earnings are usually the driving force behind powerful stock market rallies. Yet, most growth stocks have been languishing, even as the major indices continue to move sideways to higher. So, where’s the leadership in the market? Strangely, it is now primarily found in micro-cap stocks under the $10 price level, a majority of which are illiquid as well. While this may be fine for retail investors, these types of stocks are not something most mutual funds, pension funds, or hedge funds will touch. All this leads us to ponder one question; how much longer can the stock market refuse to undergo a substantial correction, despite the lack of quality leadership? Obviously, nobody knows the answer to that question. But one thing is certain; trying to get significant follow-through in even the strongest sectors and ETFs has been a rather arduous task. For that reason, we continue to concentrate on ETFs with a low correlation to the direction of the stock market. We favor commodity (DGP, SLV, DBA, UNG), currency (UUP), and even fixed-income ETFs (TLT).
Open ETF positions:
Long – DGP, FCG, UNG, DBB
Short – DUG (an inversely correlated ETF we’re long)
NOTE: Regular subscribers to The Wagner Daily receive daily updates on the open positions above, as well as new ETF trade setups, including trigger, stop, and target prices. Intraday Trade Alerts are also sent via e-mail and/or mobile phone text message on as-needed basis.
Deron Wagner is the head trader of Morpheus Capital Hedge Fund and founder of Morpheus Trading Group (morpheustrading.com), which he launched in 2001. Wagner’s new book, Trading ETFs: Gaining An Edge With Technical Analysis, was published by Bloomberg Press in August, 2008. Wagner also appears on his best-selling video, Sector Trading Strategies (Marketplace Books, June 2002), and is co-author of both The Long-Term Day Trader (Career Press, April 2000) and The After-Hours Trader (McGraw Hill, August 2000). Past television appearances include CNBC, ABC, and Yahoo! FinanceVision. He is also a frequent guest speaker at various trading and financial conferences around the world.
For a free trial to the full version of The Wagner Daily above, which includes detailed ETF trade setups and daily position updates, or to learn about our other newsletters, visit morpheustrading.com or send an e-mail to deron@morpheustrading.com.
