Low-risk Entry In An Alternative Energy Etf

NOTE: Please click on the charts below to enlarge them if they do not appear clearly.

The major indices chopped around in a sloppy range yesterday before finishing modestly lower. The Dow Jones Industrial Average lost 0.2%, the S&P 500 0.3%, and the Nasdaq Composite 0.6%. The small-cap Russell 2000 and S&P Midcap 400 were lower by 0.3% and 0.2% respectively. After failing to hold a slight mid-day rally attempt, all the main stock market indexes drifted back down to close near their worst levels of the day.

Curiously, volume in both the NYSE and Nasdaq fell to its lowest levels of the year. Total volume in the NYSE declined 10% below the previous day's level, while volume in the Nasdaq eased 16%. In both exchanges, it was the lightest full day of trading activity since December 28, a typically low-volume holiday period. Further, it's been nearly a month since volume in the Nasdaq has even exceeded its 50-day average level. The NYSE volume has done so just once. Institutional participation has really been drying up lately, indicating the "smart money" has been primarily on the sidelines. When mutual funds, hedge funds, and other institutions eventually jump back in the market, the momentum should be pretty swift, but the big question is which direction will they take the market? Astute traders should remain on the sidelines as long as the institutions do. Overtrading in a light volume market is a sure way to give back profits from choppy price action in both directions.

In the April 3 issue of The Wagner Daily, we illustrated the breakout in PowerShares Clean Energy Index (PBW) above its 50-day MA. Since then, solar energy stocks have been showing great relative strength and are now poised to make another leg up. Sector leader First Solar, Inc. (FSLR), for example, has been consolidating at its all-time high for the past week, and dropped only slightly with the broad market last Friday. Because of the strength the alternative energy sector has been showing, we bought PBW when it pulled back to support of both its 20 and 50-day moving averages yesterday. The gentle pullback off its recent highs is shown below:

Last week, we began stalking the iShares Mexico Index (EWW) for a potential buy entry. Showing among the most relative strength of the international ETFs, it began entering a healthy pullback on April 2. EWW never traded above our trigger price for entry last week, but it remains on our radar. Its correction has been mild, and it continues to show relative strength to the U.S. stock market indexes. Now that its 20-day exponential moving average has risen to nearly touch its current price, we expect a resumption of the EWW uptrend in the coming days. The updated daily chart below shows the slight pullback off its recent high:

Drilling down to the shorter-term hourly chart interval, one can see the formation of two downtrend lines that have formed off the April 2 high:

Long entries in EWW can be taken on the rally above either one of the downtrend lines shown above, depending on how much price confirmation one wishes to see before buying. We plan to buy a half position on a breakout above the two-day high (above resistance of the steeper downtrend line), then add the remaining shares on a breakout above the second downtrend line, around 61.60. Scaling into a position in this manner is a good way to minimize risk, while still allowing for full profit potential on the upside.

In yesterday's commentary, we discussed the bearish change of bias that occurred after last Friday's sell-off. As yesterday's session was rather uneventful, the situation remains the same going into today. The near-term broad-market trends are bearish, intermediate-term trends are neutral, and long-term trends clearly remain bearish. Nevertheless, select ETFs with a low correlation, such as PBW and EWW, have been showing relative strength by largely ignoring the recent weakness in the domestic market. As such, they should be among the first ETFs to jump to new "swing highs" when the U.S. markets eventually bounce again.

As for the short side, we've begun looking for ETFs with a good risk/reward ratio for short entry at current levels, but haven't found much other than a few potential daytrades. With volume so light, stocks could easily reverse higher at any moment, so short selling requires extra caution here. Still, we should start seeing breakdowns and new swing trading short entries if the market doesn't quickly recover. As always, we'll keep you up to date with the best setups we like.

Open ETF positions:

Long - PBW
Short - (none)

NOTE: Regular subscribers to The Wagner Daily receive daily updates on the open positions above, as well as new ETF trade setups, including trigger, stop, and target prices. Intraday Trade Alerts are also sent via e-mail and/or mobile phone text message on as-needed basis.

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. Wagner is currently working on this third book, scheduled for publication in early 2008.

For a free trial to the full version of The Wagner Daily above, which includes detailed ETF trade setups and daily position updates, or to learn about our other newsletters, visit morpheustrading.com or send an e-mail to deron@morpheustrading.com.

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