SPX critical resistance level

As widely expected by economists,
the Federal Reserve Board left interest rates unchanged yesterday, enabling the
major indices to handily recover their previous day’s losses. The Feds indicated
that future rate hikes remain a possibility, but are not likely to happen in the
near future. The news initially prompted indecision, as stocks sold off
immediately after the announcement, but recovered to their prior intraday levels
in the final hour. Despite relative weakness in the Semiconductor Index
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the Nasdaq Composite
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advanced 0.5%, while both the S&P Midcap 400 and Dow Jones Industrial Average
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rallied 0.6%. The small-cap Russell 2000 gained 1.2%, enabling the index to
finish at its highest level since June 6 of this year. Each of the major indices
finished in the upper third of their intraday ranges.

Turnover rose across the board, causing both the S&P and
Nasdaq to register bullish “accumulation days.” Total volume in the NYSE
increased by 8%, while volume in the Nasdaq was 4% higher than the previous
day’s level. NYSE volume moved back above its average level, as the Nasdaq
volume remained above its 50-day average for the past seven consecutive
sessions. The broad-based gains on higher volume resulted from institutional
buying known as “accumulation.” Because institutions such as mutual funds,
pensions, and hedge funds control more than half of the market’s average daily
volume, “up” days in the market are typically confirmed when backed by the
higher volume that results from institutional participation. Market internals
were positive as well. In the Nasdaq, advancing volume exceeded declining volume
by a margin of more than 3 to 1, but the NYSE ratio was positive by only 3 to 2.
This divergence confirmed yesterday’s price divergence between the S&P and
Nasdaq as well.

Not surprisingly, the S&P 500 probed above resistance of its
52-week high yesterday, but closed fractionally below it. The 52-week closing
high is 1,325.76 and was set on May 5. The prior 52-week intraday high
was 1,326.70 and occurred on May 8. Yesterday, the S&P 500 printed an intraday
high of 1,328.53, but closed at 1,325.18. The dashed horizontal line on the
chart below marks the 52-week closing high of May 5:

Because of the close proximity to its 52-week high, we
mentioned in the beginning of the week that the S&P was likely to test that
critical resistance level sometime this week. Obviously, that is what happened
yesterday. But now the S&P faces the moment of truth — will it be able to close
and hold above the 1,326 level? If it does, the index will lack overhead
supply and, as such, could continue to rally quite a bit further without a
significant correction. Above the 52-week high, the 76.4%

Fibonacci retracement level from the March 2000 high down to the October
2002 low is the next major area of price resistance. On the long-term monthly
chart below, notice that the 76.4% Fibo retracement is at the 1,367 area. We
have circled the May 2006 high in pink color:

It’s good to have a general upside target if the S&P breaks
out to new high territory, but it must first prove it can do so. As we have
discussed on numerous occasions recently, failed breakouts to new 52-week highs
often result in rapid reversals to the downside. The profitable short short sale
trades in both the S&P Select Energy SPDR
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SPDR
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If the S&P would have closed yesterday near its intraday low
of 1318, it would have already been looking like a failed breakout. However, its
recovery in the final hour enabled the index to close right at its pivot. Over
the next few days, we will likely see a tug-of-war between the bulls and bears.
Be prepared for volatile and erratic trading while the S&P hangs out at this
critical level, and be prepared with an action plan for either scenario.

Open ETF positions:

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 .