News of the U.S. government's seizure of mortgage giants Fannie Mae and Freddie Mac sparked a very strong start to yesterday's session, but investors immediately sold into strength of the opening gap, reducing the market's gains by day's end. The benchmark S&P 500 showed a 2.9% gain out of the starting gate, but that opening price marked its intraday high. By mid-day, the S&P 500 had fallen to a gain of just 0.7%, but buying interest later in the afternoon enabled the index to finish 2.1% higher. Following a similar intraday pattern, the blue-chip Dow Jones Industrial Average settled with a 2.6% gain. The small-cap Russell 2000 and S&P Midcap 400 indices climbed 2.0% and 1.3% respectively.

Though the S&P 500 and Dow Industrials held onto a majority of their opening gains, one big problem with yesterday's broad market action was major relative weakness in the Nasdaq Composite, which sputtered to a gain of only 0.6%. Even worse was the performance of the large-cap Nasdaq 100 Index. At its intraday low, the Nasdaq 100 was actually trading 1.9% lower than the previous day's close! Recovering in the afternoon, the Nasdaq 100 closed with a loss of "only" 0.3%. The S&P 500 and Dow Jones Industrial Average finished in the upper quarter of their intraday ranges, as the Nasdaq Composite closed in the middle of its range.

As to be expected from such big financial news, turnover spiked higher across the board. Total volume in the NYSE surged 39% above the previous day's level, while volume in the Nasdaq rose 14%. A welcome change from the lethargic trading we saw throughout much of August, volume in both exchanges marked their highest levels of the past seven weeks. The broad market's gains on higher volume enabled both the S&P 500 and Nasdaq Composite to score a bullish "accumulation day," the first such day of higher volume gains in quite a while. However, market internals were shockingly weak. Exactly like the previous day, advancing volume in the NYSE exceeded declining volume by an unimpressive margin of just over 3 to 2. The Nasdaq adv/dec volume ratio was again marginally negative.

After the dust had settled, we took a close look at what really happened in yesterday's session. Our overall assessment is that it was nothing more than a sector-specific bear market rally. Although financial sectors such as the Bank Index ($BKX) rallied 6.9% and Real Estate ($DJUSRE) advanced 4.7%, a majority of industry sector indexes failed to even match the gains of the S&P 500. A handful of industries had the audacity to close lower. In other words, it certainly was not a broad-based rally, the type of buying necessary in order to start new uptrends in the major indices. The weak market internals mentioned in the paragraph above confirmed the lack of broad-based accumulation. In and of itself, the extremely bearish divergence in both the Nasdaq Composite and Nasdaq 100 indices was also a key concern. The Dow Industrials gained 2.6%, but the Nasdaq 100 declined 0.3%? Hmmmm. . .

Going into yesterday's session, we had only one bearish position in the market, UltraShort Basic Materials ProShares (recall, we bought SMN on September 5, when it perfectly pulled back to support of its 20-EMA on the hourly chart). Expecting the stock market's morning strength to force us out of our position, we were pleasantly surprised to see that the Basic Materials sector ended up being the weakest industry in the market yesterday! The Metals and Mining Index ($SPSIMM), for example, tumbled 6.1%, completely ignoring the strength of the S&P and Dow. As a result of weakness in the Basic Materials arena, the inversely correlated SMN opened just above short-term support of its 10-day MA, then immediately headed higher. By day's end, SMN had gained 3.7%, and closed at its highest level since mid-March. The daily chart below shows how SMN gapped down to open right at support of its breakout level, providing a low-risk buying opportunity for those not already positioned in it:



Regardless of whether the stock market is an uptrend, downtrend, or sideways range, specific sectors of the market typically see a clear amount of institutional buying interest. At any given time, our job is to use technical analysis to identify and follow that money flow by mutual funds, hedge funds, and other institutions. This is simply the basis of our sector trading strategy using relative strength. However, within the past decade of my trading career, there have been only a handful of periods in which the "smart money" showed a complete lack of commitment to practically every industry sector. Unfortunately, this appears to be one of those times.

More than a month ago, we identified the various healthcare ETFs as showing signs of relative strength and institutional accumulation. We accordingly bought a few of them (IBB, IYH, BBH), but the relative strength faded just a few weeks later, causing them to drift down into "no man's land," like so many other industry sectors right now. Only two weeks ago, the burgeoning solar energy sector was acting great, as leading stocks broke out of bases. But only one week later, the sector completely rolled over. Even the various commodity ETFs, often considered a defensive play on the overall stock market, remain dead, stuck in choppy ranges near their lows. Opportunities on the short side of the market are just as limited, as the weakest sectors no longer carry a positive reward/risk ratio for short entry, and a vast majority of industries are just lulling about in sideways ranges. With the Basic Materials sector, we may have found one of the few industries still showing relative weakness on the short side.

Don't be discouraged by our assessment of the lack of ideal ETF trade setups right now. The good news is that the U.S. stock market is very dynamic, so it shouldn't be long before the next clear opportunity comes along. Until then, however, we're willing to wait as long as it takes. Surely, capital preservation beats churning one's account through overtrading in less than ideal reward/risk scenarios. In the near-term, let's wait a few days to see if yesterday's rally holds intact, and whether or not other industries start to join the financial party as well.

Open ETF positions:

Long - SMN
Short - (none, but SMN is a bearish position)

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.