Stocks followed up Tuesday's free-falling session with a mixed volume bounce, but it was a choppy and erratic session overall. After gapping higher on the open, the major indices promptly rushed lower, testing their respective lows of the prior day. The market stabilized at mid-day, only to re-test the lows in the early afternoon. Buyers returned in the final ninety minutes of trading, enabling the broad-based stock market indexes to finish just above the middle of their intraday ranges. Both the S&P 500 and Dow Jones Industrial Average whipsawed their way to a 0.5% gain, while the Nasdaq Composite bounced 0.3%. The small-cap Russell 2000 only managed to recover 0.1% of the prior day's 2.8% loss. The S&P Midcap 400 dropped another 0.1%.

Total volume in the NYSE edged 2% higher, but volume in the Nasdaq slipped 1% below the previous day's level. Although the slightly higher volume gain in the S&P 500 was encouraging, Tuesday's session was much more bearish than yesterday's was bullish. On the prior day, most of the major indices plummeted 2% or more, on volume that was more than 20% higher across the board. Despite yesterday's gains, market internals also remained weak. Declining volume in the NYSE was fractionally higher than advancing volume. The Nasdaq ratio was marginally positive by just 1.2 to 1. On Tuesday, recall that the advancing/declining volume ratio in the NYSE was negative by a whopping spread of 14 to 1.

In yesterday's Wagner Daily, we said we would begin looking for a few select short positions that would enable us to take advantage of the failed breakout and subsequent fall below the 50-day MA in the S&P 500. Since yesterday's opening gap up in the broad market caused the S&P 500 to open at new resistance of its 50-day MA, it provided us with just the ideal short entry we were looking for. Additional overhead resistance of the 20-day EMA and prior downtrend line (from the May high) enabled us to place a tight protective stop just above the July 24 high. With limited risk to the upside and substantial profit potential to the downside, such a short entry gives us a firmly positive risk-reward ratio as well. But rather than selling short the S&P 500 SPDR (SPY), we simply bought the inversely correlated UltraShort S&P 500 ProShares (SDS). In case you're not familiar with the UltraShort ProShares family of ETFs, each one moves in the opposite direction of the underlying index, and at a leveraged ratio of 200% the actual index. Therefore, just as the S&P 500 gapped up into resistance of its 50-day MA, SDS gapped down to new support of its 50-day MA.
 


We sent an intraday e-mail alert to subscribers, a few minutes after the market opened, informing them of our long entry in SDS at the $51.70 area. It later traded all the way up to $53.03, but backed off to close at $51.95. Since our stop is just above the July 24 high in the S&P 500, that equates to an SDS stop just below its July 24 low. With this trade, we want to be either "right or right out," meaning we don't want to stick around if the trade doesn't move in the anticipated direction rather quickly.

The small-cap Russell 2000 has been showing more relative weakness than the S&P 500, but support of its 200-day MA makes it tricky for a short entry at the current level. If the Russell puts in a decent bounce, we may consider it, but we'll stick with just being short the S&P 500 for now. On a technical level, nothing changed with the Nasdaq and Dow. Both held support of their prior highs from June, which remains a key level to monitor. In both the Nasdaq and Dow, a break below their respective two-day lows would correspond with a breakdown below their prior highs from June.

Sudden strength in the U.S. dollar had a negative impact on the price of spot gold, which lost 1.6% yesterday. Not surprisingly, the Market Vectors Gold Trust (GDX) corrected sharply as well. Because GDX had rallied sharply off its June low in a rather short period of time, we had been trailing a relatively tight stop below support of its hourly uptrend line, less some "wiggle room." As such, GDX hit our tightened stop yesterday, but we still closed the position with a small profit. Obviously, we can never control the price action of a stock or ETF. However, the one thing we can control for each trade setup is risk. By trailing a stop below support of the hourly uptrend line, we removed all the risk of loss from the trade, but still gave the position enough "wiggle room" to continue climbing higher if the pullbacks were shallow enough. GDX eventually closed yesterday's session a little above where we sold it, but the gold stocks now have a lot of overhead supply to contend with. Still, with the 20-day EMA providing support below, GDX could stabilize over the next week and begin moving higher again. If it does, we'll be looking for a potential re-entry point above its new hourly downtrend line. Although it formed a bullish "hammer" candlestick yesterday, we prefer to "wait and see" how GDX (and spot gold) holds up following yesterday morning's selling spree before jumping back in.

Stellar earnings from Amazon.com (AMZN) enabled the stock to rocket 24% higher yesterday, but the Nasdaq Composite didn't really seem to care. A positive reaction to the quarterly earnings of Apple, Inc. (AAPL) enabled the market-leading stock to zoom higher in yesterday's after-hours session, but will this help the Nasdaq more than Amazon did yesterday? If so, it could pull the broad market higher and possibly scare off the bears. However, continued distribution in the face of big moves from Apple and Amazon would be a bearish sign for stocks. Presently, our short-term bias on the broad market remains moderately bearish, while our intermediate-term bias is neutral. If the major indices begin breaking down below their June lows, the intermediate-term bias would also shift to bearish. Conversely, a move back to the highs in any of the major indices would probably cause us to at least change our short-term bias.

Open ETF positions:

Long - FXC, PBW, SDS
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.