I’m short the OIH, here’s the setup

The broad market followed up Monday’s selloff with a mixed session yesterday, as total volume rose back above average levels in both exchanges. The Nasdaq Composite fell 0.3% yesterday, but the small-cap Russell 2000 and S&P Midcap 400 indices gained 0.3% and 0.4% respectively. Both the S&P 500 and Dow Jones Industrials were unchanged. Although most stocks began the day with an opening gap up, the major indices drifted lower throughout the entire day and once again closed at their worst levels of the session. We finally sold the remaining shares of
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PowerRating) (Gold Trust) into strength yesterday, locking in a nice gain of more than 6% on the two-week trade. We also closed our long position in
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PowerRating) (iShares 20+ year T-bond fund) when it hit the trailing stop yesterday, but the trade netted a small gain nevertheless.

Turnover in the NYSE rose by 8% yesterday, while the Nasdaq showed an overall 12% increase in volume compared to the previous day’s level. The Nasdaq’s loss, combined with the higher volume, means that the index registered its second consecutive “distribution day.” Because the S&P closed flat, it technically did not count as a “distribution day.” Regardless, the price action was bearish because the S&P opened higher, trended lower throughout the entire day, and finished at its intraday low. When this pattern occurs, it indicates “churning” beneath the surface and can be just as negative as a day of higher volume losses. It is always healthier for the market if volume declines during such intraday price action. On the plus side, market internals were not too bad, as advancing volume marginally exceeded declining volume in the NYSE. The Nasdaq internals were negative by only a small margin.

As regular subscribers know, we entered a new position in
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PowerRating) (Oil Service) short yesterday, so let’s take a moment to explain the trade setup on the chart below:

As you can see, OIH broke out above resistance just below the $126 level on November 22 and closed that day at a new all-time high. New highs are normally bullish, which is why we don’t short stocks or ETFs at 52-week highs. However, breakouts to new highs sometimes fail, especially when an ETF has been uptrending for an extended period of time. In the case of OIH, its weekly chart shows that a steady uptrend has been in place since December of 2003. The most recent attempt to set a new high was also the “fourth wave” in the primary uptrend, a level at which is where rallies sometimes run out of gas or reverse. The big red candle on November 28 was bearish because it caused OIH to close well below its breakout level only two days after it set a new high. Although this type of play is a bit riskier than most of our setups in which we follow the primary trend, the risk/reward is very high because failed breakouts often fall very hard and fast. This is why we initiated a new short position in OIH yesterday. As always, our rigid stop placement will protect us if we are wrong or too early.

Going into today, we are stalking
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PowerRating) (Biotech HOLDR) for a potential long entry. We netted a seven-point gain in BBH when it broke out earlier this month and have since been waiting for a correction to re-enter the trade. Based on the daily chart below, it appears it may indeed soon be time to buy BBH:

The first thing you will notice about BBH on the chart above is that it has dropped down to support of its 20-day moving average. When a stock or ETF is trading at a multi-year high, the first retracement to the 20-day moving average often provides a low-risk entry point on the long side. In steady uptrends, the 20-day moving average often converges with lower channel support of the uptrend line. This is because the minimal amount of overhead supply usually enables the uptrend to easily resume. It is possible, however, that BBH will fall a bit further, down to support of its prior highs from September (just over the $200 level). For this reason, we are not interested in guessing where the bottom is. Instead, we will drill down to a shorter-time frame of the hourly chart and will only enter after BBH rallies above the hourly downtrend line that has formed from the high of November 22. Because daily charts are more powerful than hourly charts, the primary uptrend on the daily combined with the break of the hourly downtrend should enable a resumption of the primary uptrend when that occurs. We will wait patiently for the entry point to present itself, using the trigger, target, and stop prices as detailed for subscribers below.

Open ETF positions:

Short OIH (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