Going long? Let these 3 charts guide you

After beginning the day with an
opening gap down that sucked in the bears, the
broad market staged a swift upside reversal that gathered momentum and powered
higher in the afternoon. The Nasdaq Composite
(
COMP |
Quote |
Chart |
News |
PowerRating) surged 1.7% higher,
the S&P 500 1.5%, and the Dow Jones Industrials
(
DJX |
Quote |
Chart |
News |
PowerRating) 1.3%, as volume zoomed
higher as well. Small cap stocks woke up too, as the formerly weak Russell 2000
Index
(
RUT |
Quote |
Chart |
News |
PowerRating) rocketed 2.0% higher. The Midcap S&P 400
(
MDY |
Quote |
Chart |
News |
PowerRating) gained 1.4%.
Each of the major indices also closed firmly at their intraday highs, a notable
change from most days in the first half of the month. Nearly every industry
sector we follow gained more than 1% yesterday. The Semiconductor Index
(
SOX |
Quote |
Chart |
News |
PowerRating)
was unchanged, but its intraday reversal was impressive. Intel gapped down 3% on
the open, but recovered to close only a few pennies lower. This action resulted
in the $SOX trading well below its 200-day moving average in the morning, but
reversing to form a bullish “hammer” candlestick with a close above it.

For the first time this month, the S&P and Nasdaq both gained
on higher volume yesterday. Total volume in the NYSE zoomed 25% higher
yesterday, while volume in the Nasdaq was 29% heavier than the previous day’s
level. The strong percentage gains in the broad market combined with the equally
strong volume increases means that yesterday was an unequivocal “accumulation
day” that was fueled by institutional buying. The 2.06 billion shares that
changed hands in the NYSE made yesterday the highest volume “up day” since
September 16. While one “accumulation day” does not change the fact that many
“distribution days” have been had over the past month, yesterday’s action should
definitely serve as a red flag to the bears.

Admittedly, Wednesday’s bullish reversal was a bit surprising.
But as professional traders, we don’t care why the market does what it
does. The only thing that matters is that we properly react to the market’s
actions (trade what you see, not what you think). We shorted both DIA and IWM on
Tuesday, but simply followed our original plan and promptly covered
(
DIA |
Quote |
Chart |
News |
PowerRating)
when it hit our stop price yesterday.
(
IWM |
Quote |
Chart |
News |
PowerRating) remains just below our stop
price. Although it is never fun to stop out of a trade only one day after we
enter it, the reasons for our short entries were quite valid at the time and our
loss in DIA was kept small because we did not question why it reversed back up
through resistance. Consistently maintaining the discipline to keep losses
small, but let winners ride, is the reason the Morpheus Capital hedge fund has
been consistently profitable since inception. Properly managing risk is much
more important than being a good technical analyst.

Each of the major indices closed yesterday above their
respective highs of October 17. We feel this is technically significant because
it means the hourly charts are now showing a “higher low” being formed that
could possibly lead to a break of the daily downtrend lines. However, it
is important to wait for confirmation of this break before aggressively
re-entering the long side of the market. In order to assist you with this, let’s
take an updated look at the new support and resistance levels in each of the
three major indices. We’ll begin by taking a look at the benchmark S&P 500
Index:

The most notable thing about the chart above is that the S&P
appears to have formed the first “higher low” of the month. Obviously, the index
clearly remains in the downtrend that began with its September high, but the
first “higher low” increases the odds the S&P will at least attempt to rally
back up to resistance of its primary downtrend line (the descending red line).
Before that, however, the index will first need to get back above resistance of
its 200 and 20-day moving averages, which are at 1,199 and 1,201 respectively.
The 1,200 level is a key area of short-term resistance for the S&P. Above that,
the closely watched 50-day moving average rests at the 1,215 level, just below
the primary downtrend line. Overall, the S&P still must contend with a lot of
overhead supply, but yesterday’s high volume rally was powerful and caution is
now warranted on the short side because of yesterday’s action. The primary
downtrend line near the 50-day MA would be the safest place to wait for a new
short attempt in SPY, but we will continue to closely assess conditions along
the way. Next, take a look at the Nasdaq Composite below:

Like the S&P, the Nasdaq formed its first “higher low” of the
month yesterday. More importantly, it powered back above resistance of its
200-day moving average at the 2,072 level. Short-term resistance will be found
at both the 20-day MA (2,097) and the 50-day MA (2,128). It will be bullish if
the index rallies back above both of those moving averages, but resistance of
the primary downtrend line at the 2,152 level still remains. As you can see, the
Nasdaq has been in a steady downtrend since the high of August 3. The longer a
trend has been in place, the more likely the trend is to continue. Therefore, we
must remember the Nasdaq is still in an intermediate-term downtrend until it
proves otherwise. Finally, take a look at the Dow Jones Industrial Average:

In addition to also putting in a “higher low” yesterday, the
Dow absorbed the overhead supply from its prior lows of August and September, as
it closed firmly above the horizontal price resistance at 10,350. The 10,350
resistance level, which we discussed in Wednesday’s Wagner Daily, was the
reason we shorted DIA on Tuesday. However, we promptly covered DIA yesterday
because the reason for being in the trade was no longer valid. Like both the S&P
and Nasdaq, the Dow also remains in an intermediate-term downtrend. The upper
channel of the primary downtrend is illustrated by the descending red line,
currently just above the 200-day moving average. The 50-day moving average,
presently at 10,474, is also an area of contention.

Remember that quarterly earnings season is now in full swing.
With it, you need to expect erratic moves and high volatility in the markets.
The major indices may have put in a short-term bottom yesterday, but a lot of
overhead supply remains in the broad market. Therefore, this may be a good time
to tread lightly on both sides of the market. Furthermore, you may wish to
shorten your average time frame on all new trade entries, as doing so would
carry a lower degree of risk in the event of indecisive market behavior. We
presently have only one open position and will be looking to play only quick
retracements with new trade entries. After earnings season passes, stocks will
settle down and we will be able to clearly re-assess the intermediate-term
direction of the markets.

Open ETF positions: