A quarter-point rate cut by the Federal Reserve Board yesterday afternoon triggered a massive sell-off that sent stocks tumbling into the close. Although practically all of Wall Street expected at least a quarter-point reduction in the Fed Funds Rate, investors and traders were not impressed enough to abstain from selling into strength of the market's recent gains. Both the S&P 500 and Nasdaq Composite plunged 2.5%, as the blue chip Dow Jones Industrial Average careened 2.1%. Small and mid-cap stocks were even harder. The Russell 2000 lost 3.2% and the S&P Midcap 400 fell 3.0%. After free-falling more than 3% from their intraday highs in just over ninety minutes of trading, all of the major indices finished at their dead lows.

Volume spiked across the board, causing both the S&P and Nasdaq to register a bearish "distribution day" indicative of institutional selling. Total volume in the NYSE surged 27% above the previous day's level. Turnover in the Nasdaq swelled 19%. Despite the increased trading activity, volume in both exchanges exceeded 50-day average levels by only a marginal amount. This is because overall volume levels in the preceding two days trickled in at the lowest levels in months. Market internals were about as ugly as they come. Declining volume in the NYSE trounced advancing volume by more than 14 to 1. The Nasdaq adv/dec volume ratio was a little better at negative 5 to 1.

If you read our commentary in yesterday morning's Wagner Daily, in which we suggested the likelihood of a post-Fed sell-off, the late day collapse should not have caught you totally off guard. Hopefully, you heeded our advice to, "have a firm plan of action for managing your positions ahead of the 2:15 pm ET announcement." If so, damage to your account from any long positions should have been acceptable. Going into yesterday, we had just two open positions because we did not want to be heavily positioned ahead of the highly anticipated announcement on economic policy. Gold and silver were not immune to the late-day selling, which caused our long position in the iShares Silver Trust (SLV) to fall sharply alongside of equities. However, we made a judgment call to lock in a one-point gain by selling SLV after it fell below support of the prior session's intraday consolidation. SLV subsequently lost another point by the closing bell. Below is a 15-minute intraday chart of SLV that illustrates the point at which we sent an e-mail sell alert to subscribers:



Our initial stop in SLV was just below the 50-day moving average, approximately three more points below yesterday's closing price. Because SLV had just broken out above its downtrend line one day earlier, the risk of a failed breakout in yesterday's bearish momentum was too high to consider holding SLV all the way back down to the original stop. If it happens to recover, we can easily re-enter SLV, but taking a profit on long positions in the face of such heavy selling is never a bad idea. It also allows you to re-assess the market with a clear head. Conversely, we kept our long position in the Pharmaceutical HOLDR (PPH) because it held within its recent base of consolidation and is still showing a small unrealized gain.

High volatility on Fed afternoons is not unusual, though it's rare that the market plunged steadily lower without whipping back towards the intraday highs at least once or twice. The selling was incessant, causing a lot of technical damage to occur on the charts of the main stock market indexes in a period of just over ninety minutes. For starters, the S&P 500 sliced through support of its 50-day moving average that it had broken out above just three days prior. Worse is that the index closed below its 200-day MA as well:



Along with the breaks of moving average support, the S&P 500 also moved below support of its two-week uptrend line off the November low (the ascending red line). Nevertheless, one day of heavy selling is too early to declare the recovery off the lows as being dead. The "swing low" of 1,460, formed on December 4, remains intact. As such, the recent pattern of "higher highs" and "higher lows" on the daily chart has not yet changed. A firm close below the December 4 "swing low" would swiftly cause us to resume our overall bearish bias that we had throughout most of November. Since it typically takes one to three days to see the real reaction to Fed announcements, the market's price action over the next few days will likely determine the subsequent trend in coming weeks.

Unless the major indices brush off yesterday's losses and rapidly move back towards their recent highs, short setups will soon develop. We'll be ready for new short entries when the setups begin presenting themselves, but we're laying low until the market confirms that yesterday's action was not just a knee-jerk reaction. Similarly, yesterday's price action and technical damage gives us no good reason to look for new long entries right now.

As of two hours before the opening bell, the S&P and Nasdaq futures are both poised to open about 0.7% higher today. If you happen to be stuck in losing long positions that you should have closed yesterday, view this upside gap as a gift and consider selling your positions at a reduced loss. At the very least, trail a tight intraday stop. Never fall into "hope" mode with stocks and ETFs that have exceeded your predetermined stop prices. Professionals quickly and calmly take their losses when presented with opportune chances to do so. Many years ago, I learned the hard way that hoping and waiting for a losing trade to recover to your entry point is a surefire way for a tolerable loss to turn into a more damaging one, especially in weak markets. In all circumstances, you should live by the rule of trading what you see, not what you think!

Open ETF positions:

Long - PPH
Short - (none)

Deron Wagner is the Founder and Head Trader of both Morpheus Capital LP, a U.S. hedge fund, and Morpheus Trading Group, a trader education firm launched in 2001 that provides daily technical analysis of the leading ETFs and stocks. For a free trial to the full version of The Wagner Daily or to learn about Wagner's other services, visit MorpheusTrading.com or send an e-mail to deron@morpheustrading.com.