Focus on these 2 leading sectors

The major indices finished the day modestly higher last Friday, but the Nasdaq Composite broke its seven-week winning streak nevertheless. After a choppy start in the first half of the day, stocks trended higher in the afternoon and held on to most of their gains into the close. The Nasdaq Composite, small-cap Russell 2000, and mid-cap S&P 400 indices each gained 0.5% and closed near their intraday highs. The S&P 500 and Dow Jones Industrial Average closed higher by 0.3% and 0.2% respectively, but both indices showed relative weakness and finished near the middle of their intraday ranges. For the week, the Nasdaq slid 0.7%, the S&P 500 fell 0.5%, and the Dow Jones Industrials dropped 0.9%.

Total volume in the NYSE declined by 15% last Friday, while volume in the Nasdaq was 13% lighter than the previous day’s level. Obviously, it would have been better if the major indices had advanced on higher volume, but at least the broad market did not have another “distribution day.” Both the S&P and Nasdaq have had four days of institutional selling within the past two weeks, so it is important that we once again begin seeing some days of higher volume gains in order to absorb the supply. We will pay close attention to the price/volume relationship of the major indices in the coming week, as it will give us insight as to whether the broad market correction is likely to continue in the short-term. Unfortunately, volume is likely to begin dropping overall as we approach the Christmas and New Year’s holidays.

The Semiconductor Index
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PowerRating), which showed relative strength by cruising 1.8% higher last Friday, continues to look good on its weekly chart and could help lift the Nasdaq to new highs from here. Since its intermediate-term bottom on October 28, the SOX has trended steadily higher in an order fashion. Its day-to-day volatility increased after breaking out to a new 52-week high on December 1, but the weekly chart now shows a healthy correction that has occurred since then. Looking at the chart below, notice how last week’s low in the SOX corresponded to the prior highs from August and September of this year. This is a good example of how a prior resistance level becomes the new support after the resistance is broken:

As we often point out, the longer-term weekly chart is a good way to remove the “noise” that is often associated with the shorter-term daily charts. Based on last week’s orderly retracement down to support, we expect the SOX to test its December 2 closing high in the coming week. Because the Semiconductors are so heavily weighted within the Nasdaq, the performance of the SOX is likely to determine whether or not the Nasdaq breaks out to new highs again. We recommend you follow that index closely because the Nasdaq usually follows the SOX.
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PowerRating) (Semiconductor HOLDR) is also buyable over the December 8 high, which would represent a break of the hourly downtrend line and a resumption of the weekly uptrend.

The Biotech Index
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higher. The 20-day moving average (MA) is now acting as support, while the
50-day MA is also slowly rising up to provide support. Looking at the daily
chart of the BTK index below, notice how "tight and narrow" the consolidation
has been for the past several weeks. If the BTK index can rally above the dotted horizontal line near the 682 level, the index will probably break out to a new high. At the least, it should test the November 22 high of 691:

Unfortunately,
(
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PowerRating) (Biotech HOLDR) has actually begun to show relative weakness to the Biotech index. Remember that each ETF in the Merrill Lynch “HOLDR” family is comprised of only 20 individual stocks. Therefore, the HOLDRs are sometimes going to be heavily weighted in one stock or another and not as balanced as the sector index itself. In the case of BBH, relative weakness in
Genentech
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DNA |
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PowerRating) caused BBH to lose 1.5% last Friday, despite
a 0.4% gain in the BTK index. As of last Friday’s close, DNA represented a 42% weighting in BBH. You can view the individual stocks that comprise BBH, or any other ETFs in the HOLDR family, by going to
www.holdrs.com.
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PowerRating) (iShares Biotech) is an alternative to BBH and is more diversified as well.

We remain bullish in the intermediate-term, but cautious about
entering new long positions in the short-term. The upcoming holiday season will
likely lead to reduced volume and volatility, which is another good reason to
take it easy with new positions over the next few weeks.

Open ETF positions:

Short half position of
(
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PowerRating) (regular subscribers to The Wagner Daily receive detailed stop and target prices on open positions and detailed setup information on new ETF trade entry prices. Intraday e-mail alerts are also sent as needed.)

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 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 or to learn about Deron’s other services, visit morpheustrading.com or send an e-mail to deron@morpheustrading.com.