Here Are The Sectors I Want To Be In Today

Many stocks sustained their third
consecutive day of losses yesterday, but
lighter turnover again indicated that the “smart money” was not aggressively
selling. Unlike the prior two days in which the broad market started off on a
negative note, the major indices gapped to open higher yesterday morning, but
the enthusiasm quickly faded and the indices trended steadily lower throughout
the day. The Nasdaq Composite Index dropped another 0.6% yesterday, bringing the
index to a loss of 2.3% within the past three days. Losses were modest in the
S&P 500 and Dow Jones Industrial Average indices, which closed lower by 0.3% and
0.2% respectively. Both the S&P 400 Mid-Cap Index and Russell 2000 Small-Cap
Index lost 0.5%.

On a positive note, volume in both exchanges once again came
in lower than the previous day’s levels. Total volume in the NYSE declined by
12%, while volume in the Nasdaq was 1% lower. Unlike most broad market
corrections that are prone to at least a few days of higher volume “down” days,
the major indices have yet to register a bearish “distribution day” since the
short-term correction began on August 4. In fact, both the S&P 500 and Nasdaq
Composite have had only one day of losses on higher volume within the past four
weeks. By paying close attention to increases in volume that correlate to “up”
or “down” days in the broad market, you can get a clear and accurate indication
of what the institutional money is really doing. Whereas many technical
indicators occasionally give false readings, volume is the one indicator that
never lies. Furthermore, most technical indicators are “lagging” indicators, but
volume is a “leading indicator.” Following the market’s price to volume
relationship on a daily basis is akin to looking under the hood of a car to see
whether the car just looks fast or is really packed with a powerful engine.

Yesterday saw further weakness in the Retail sector that
helped push our short position in RTH (Retail HOLDR), which we entered August 5,
further into the black. The Dow Jones Home Construction Index ($DJUSHB), which
we pointed out as a short candidate in yesterday morning’s Wagner Daily,
followed through on Monday’s 4.5% loss with another 3.3% drop yesterday. As
mentioned, there is not an ETF that tracks the index, but trading a small basket
of individual stocks is a good way to capitalize on sectors that lack
corresponding ETFs. FYI, the Morpheus Capital hedge fund is currently short RYL
and LEN, which are showing unrealized gains of 3.5 points and 2 points
respectively. If not already short the Home Construction stocks, it may be a bit
risky to enter at current levels, but a bounce or sideways retracement near the
lows would present the next short entry points. When determining which stock(s)
in that sector to short, those that are now trading below their 50-day
moving averages are probably the best choices.

The Dow Jones Utilities Average ($DJU), which has been a
strong market leader for several years, now appears to be forming a
short-term top. The index is still well above support of its multi-year uptrend
line on the weekly chart, but it just broke support of a steeper daily uptrend
line that had been in place since the low of May 13. The chart of the $DJU index
below illustrates this trendline break:

Because the index is still above support of its 50-day MA (the
teal colored line), it may be tricky to short this index. But we at least wanted
to give you an early heads up to the next sector that may potentially be poised
for a reversal, at least in the short-term. The two main ETFs that track the
Utilities are UTH (Utilities HOLDR) and XLU (S&P Utilities SPDR). We will be
stalking both UTH and XLU for potential short entries over the next several
days, depending on whether the sector continues to show relative weakness. As
always, subscribers will be sent intraday e-mail alerts when/if we enter either
ETF on the fly.

On the upside, we like the way the Semiconductor Index ($SOX)
is acting, as the recent correction in the sector has been orderly and moderate.
Although the index closed yesterday below its 20-day moving average, it is still
more than 4% above support of its 50-day MA and is also holding firmly above
support of its primary uptrend line. For those reasons, we expect the Semis to
be among the first sectors to rally when the broad market bounces. We closed an
8% profit on half of our long position in SMH (Semiconductor HOLDR) last
week, but remain long the second half of the position with a stop just below the
daily uptrend line. The Biotech Index and BBH (Biotech HOLDR) have corrected
sharply the last several days, but most individual leading stocks within the
sector still look good on their daily and weekly charts. We’ll be watching to
see how well the Biotechs act on the next broad market bounce and may consider
re-entering BBH on the long side.

As for the broad-based ETFs, their short-term direction is
likely to be determined by the market’s reaction to today’s FOMC meeting. At
2:15 pm EDT, the Feds are widely expected to raise the Fed Funds rate for the
10th straight time to a new rate of 3.5%. As always, the comments that accompany
any rate hike are usually of more importance than the actual rate increase
itself. Remember that the actual Fed commentary is irrelevant; rather, it is the
market’s reaction to those comments that is of concern to technical
traders. A knee-jerk reaction and high post-Fed volatility is probable, so take
it easy with entering new positions today. We will take an updated look at the
broad market’s support and resistance levels in tomorrow’s Wagner Daily,
after we see the market’s reaction to Fed comments today.

Deron Wagner is the founder and
head trader of both the Morpheus Capital Hedge Fund and Morpheus Trading
Group (morpheustrading.com). Mr. Wagner recently
released his video course,

Sector Trading Strategies (Marketplace Books, June 2002) and is
co-author of

The Long-Term Day Trader (Career Press, April 2000) and

The After-Hours Trader (McGraw Hill, August 2000). Deron has appeared
on CNBC, ABC, and Yahoo! FinanceVision. He is also a frequent guest
speaker at various trading and financial conferences around the world. To
learn more about Wagner’s daily trading newsletters, visit morpheustrading.com or send an e-mail
to
deron@morpheustrading.com.