Use Caution Until You See A Confirmed Breakout

The broad market trended higher
throughout the first ninety minutes of
yesterday’s session, but the major indices were unable to sustain their strength
and drifted lower throughout the afternoon. The S&P 500 Index briefly rallied to
a new four-year high in the morning, but ultimately closed 0.4% lower. The
Nasdaq Composite lost 0.6%, while the Dow Jones Industrial Average gave up 0.5%.
The S&P 400 Mid-Cap Index similarly lost 0.6%, but small caps corrected the most
with the Russell 2000 Index dropping 1%. Industry sectors were mixed with no
significant moves except that Oil and Oil Services sectors followed through with
another day of new highs.

It was positive that total volume in the NYSE declined by 7%
yesterday, while volume in the Nasdaq was 10% lighter than the previous day. The
fact that volume was lower on a day of broad-based losses indicates there was a
lack of institutional selling (aka “distribution”). Last Friday’s gains were on
lighter volume and yesterday’s losses occurred on ever lighter volume. This is
how the market typically reacts when it is “correcting by time” through a
sideways consolidation in a range near the highs. Volume will probably remain
light until the broad market breaks out of its range that has been established
over the past several days.

It appears the broad market is now entering a short-term,
sideways “holding pattern” that will allow it to digest its recent gains. As
such, it is a good idea to know the support and resistance levels that represent
the sideways range so that you can profit from a breakout of this range. On the
charts of the major indices below, we have drawn horizontal lines to illustrate
the short-term areas of support and resistance that constitute the current
short-term trading range. The blue lines are support levels and the red lines
are the resistance levels. The beige line is the 20-day moving average (which
has begun rising up to provide support) and the aqua colored line is the 50-day
MA. The thick orange line is the 200-day MA. Also note that the corresponding
support and resistance levels for the SPY and DIA exchange traded funds can be
closely approximated by dividing by 10:

While the support and resistance levels labeled above provide
us with a good idea of when the indices have broken out of their short-term
ranges, bear in mind that an intraday probe above resistance or below support
does not count as breaking out of the range. Markets that are in ranges
will often see intraday “stop hunts” above or below pivotal resistance or
support levels, but a real break out of the range can only be confirmed with a
closing price above or below the range. Yesterday’s probe above the 1,236
resistance level in the S&P 500 is a good example of this. Until we see a
confirmed breakout of the ranges above, we advise caution entering new
positions. Instead, focus on managing your existing positions because it is easy
to get “chopped up” when attempting to trade markets that are in tight ranges of
consolidation.

Today’s Watchlist:

There are no new plays for today, as we now have three open positions (SMH and
FXI long, UTH short)

Deron Wagner