Wrapping up the month of February with neither a bang nor a whimper, stocks quietly drifted sideways through the entirety of last Friday's session before finishing near unchanged levels. The Nasdaq Composite edged 0.2% higher, as the S&P 500 eked out a gain of 0.1%. The Dow Jones Industrial Average was flat, the small-cap Russell 2000 slipped 0.3%, and the S&P Midcap 400 rose 0.1%. The main stock market indexes settled around the upper quarter of their narrow intraday ranges.
Turnover was mixed. Total volume in the NYSE was 8% greater than the previous day's level, while volume in the Nasdaq eased 2%. Trading in both exchanges moved marginally above 50-day average levels. With prices little changed and volume levels mixed, there was no dominant price to volume relationship in last Friday's session. Not surprisingly, market internals were flat. Across the board, advancing volume was approximately on par with declining volume.
Going into last Friday's session, we were positioned in UltraShort Emerging Markets ProShares (NYSEARCA:EEV), an ETF inversely correlated to a portfolio of emerging markets. We bought EEV on February 23, after it gapped above a tight, four-day range at support of its 50-day moving average. Two days later, the trade was showing a solid gain on the open, but EEV moved steadily lower as the broad market rallied, leaving us with a smaller unrealized gain. We then re-assessed the charts of various emerging markets ETFs, and came to the conclusion the pullback off their January highs may be reaching a terminus. Despite higher initial expectations for the trade, we therefore made a judgment call to sell our EEV position last Friday, locking in a small profit. Furthermore, we then essentially reversed the trade by subsequently buying iShares Xinhua 25 China (NYSEARCA:FXI).
Although we rarely become bullish on a trade the same day we close it as a bearish trade, we noticed the formation of a bullish inverse "head and shoulders" pattern on the daily chart of iShares BRIC Index (NYSEARCA:BKF), which coincided with the ETF breaking out above its downtrend line from the January 2010 high. The "head" of the pattern also "undercut" its 200-day moving average, which makes the pattern more attractive. This setup is annotated on the chart below:
The "BRIC" Index represents stocks from the following countries: Brazil, Russia, India, and China. Therefore, rather than simply buying BKF, we assessed the charts of ETFs individually devoted to each of those countries (EWZ, RSX, INP, and FXI, respectively). In doing so, we noticed developing relative strength in several of the Chinese ETFs, which is why we chose to buy FXI. However, we also like the daily chart of iPath India Index (NYSEARCA:INP), shown below:
The performance of all international ETFs is at least somewhat correlated to the direction of the U.S. markets. Nevertheless, we like that international ETFs also have the ability to be out of sync with the domestic markets, thereby setting a trend of their own. In this case, the domestic markets have already been rallying off their pullback lows since February 5, while most of the emerging markets ETFs are now starting to move higher as the U.S. markets chop around in a range. Though FXI and other emerging markets ETFs may not recover back to their January highs anytime soon, they now look ripe for a decent, tradeable rally. If the bounce develops into something more, as we trail our stops higher, all the better. In addition to the emerging markets, we are also still monitoring iShares Nasdaq Biotech (NASDAQ:IBB) for potential buy entry. We discussed this setup in last Friday's newsletter, and IBB rallied that day to close near our trigger for long entry.
Although the Nasdaq Composite has unconvincingly moved back above its 50-day moving average, the S&P 500 and Dow Jones Industrial Average remain stuck below their 50-day MAs. As recently discussed, the narrow ranges between support of the 20 and 50-day moving averages means the major indices remain "stuck between a rock and a hard place." As long as this remains the case, a more proactive stance to managing positions is suggested, as well as lighter share sizing. Be careful to avoid overtrading in an indecisive market, and be prepared for a sudden breakout in either direction. Finally, always trade what you see, not what you think.Open ETF positions:
Long - FXI
Short (including inversely correlated "short ETFs") - PSQ
Deron Wagner is the Founder and Head Portfolio Manager of Morpheus Trading Group, a capital management and trader education firm launched in 2001. Wagner is the author of the best-selling book, Trading ETFs: Gaining An Edge With Technical Analysis (Bloomberg Press, August 2008), and also appears in the popular DVD video, Sector Trading Strategies (Marketplace Books, June 2002). He is also 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. Wagner is a frequent guest speaker at various trading and financial conferences around the world, and can be reached by sending e-mail to firstname.lastname@example.org.
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Disclosure: Long FXI, Long INP