As much of Wall Street anticipated, the Fed cut interest rates by a quarter point yesterday afternoon, and also hinted that further reductions in the federal funds rate will be put on hold. Stocks gained throughout the morning, briefly spiked higher after the 2:15 pm announcement, then sold off significantly shortly thereafter. The Nasdaq Composite lost 0.6%, the S&P 500 0.4%, and the Dow Jones Industrial Average 0.1%. The small-cap Russell 2000 declined 0.4%, as the S&P Midcap 400 slipped 0.1%. All the main stock market indexes settled at their intraday lows.

Turnover picked up across the board, causing both the S&P 500 and Nasdaq Composite to register a bearish "distribution day." Total volume in the NYSE increased 12%, while volume in the Nasdaq surged 24% above the previous day's level. In both exchanges, it was the second day of institutional selling in less than two weeks, putting pressure on the market's current rally attempt. Declining volume in both the NYSE and Nasdaq exceeded advancing volume, but only by margins of less than 2 to 1.

Although yesterday's actual losses in the broad market were moderate, the post-Fed price action of the major indices caused bearish patterns to form on their daily charts. The S&P 500, Nasdaq Composite, and Dow Jones Industrial Average each jumped to new multi-month highs intraday, triggering traders' buy stop orders, but rapidly reversed to eventually finish the day just below their previous day's lows. This trapped the bulls who bought the failed breakout and caused the main stock market indexes to form bearish "inverted hammer" candlestick patterns on their daily charts. When this type of pattern occurs at the top of a recent range, it often marks a near-term top. When higher volume accompanies the inverted hammer, as it did yesterday, it's even more bearish. Below, we've circled this pattern on the daily candlestick chart of the S&P 500 SPDR (SPY), a well-known ETF proxy of the S&P 500 Index:



Throughout April, we were focused on the long side of the market, taking advantage of the intermediate-term countertrend bounce off the March lows. However, we now feel your best overall odds of profitability once again favor the short side of the market. Even before yesterday's inverted hammers, we started to test the short side of the market due to overhead resistance of the long-term downtrend lines that have been in place for the past seven months, as well as the 200-day moving averages of the major indices. The inverted hammer patterns, along with newfound weakness in leading stocks, simply helped confirm what we had already begun thinking -- the countertrend bounce within the primary bear market may be nearing an end.

In the April 2 issue of The Wagner Daily, we said, "[. . .] we expect continued strength for at least the next three to six weeks, [but] don't forget we're still in a primary bear market." Four weeks have passed since those comments were made, and the market showed the strength we expected during that time, but all bets are now off for buying ETFs that are directly correlated to the direction of the U.S. stock market. Only a sudden, unexpected rally to close above yesterday's highs would cause us to change our minds, which we have no problem doing if the market proves us wrong. Regular subscribers should note our trigger, stop, and target price for the UltraShort S&P 500 ProShares (SDS), which moves inversely to the direction of the S&P 500, and at a margin of 2 to 1. We'll begin looking at additional short selling opportunities in the coming days.

Open ETF positions:

Long - SLV, UUP
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.