Stocks got off to a rough start for the week, as the broad market sold off sharply and on higher volume. After gapping down to open near their previous day's lows, the major indices convincingly made another leg down in the first ninety minutes of trading. Thereafter, the main stock market indexes drifted sideways throughout most of the day. The Dow Jones Industrial Average tumbled 2.1%, the S&P 500 2.3%, and the Nasdaq Composite 2.4%. The small-cap Russell 2000 and S&P Midcap 400 indices fell 2.8% and 2.6% respectively. A modest wave of buying in the final hour of trading lifted stocks off their worst levels of the day, but the major indices still finished around the bottom quarter of their intraday ranges.

On a technical level, one of the most negative factors about yesterday's sell-off was the higher turnover that accompanied it. Total volume in the NYSE jumped 34%, while volume in the Nasdaq increased 6% above the previous day's level. The higher volume losses caused both the S&P and Nasdaq to register a bearish "distribution day" for the second time in a week (in addition to the negative volume pattern of the June 11 "churning" in the Nasdaq). In the NYSE, declining volume trounced advancing volume by a whopping margin of 14 to 1. The Nasdaq adv/dec volume ratio was better, but still negative by 4 to 1.

Yesterday's decline was certainly attention-getting, as many industry sectors suffered rather sizeable losses. Of the past four sessions, two were marked by higher volume losses, and one saw substantial intraday gains erased on higher volume. This means the market's underlying volume patterns, a reliable footprint of institutional trading activity, have turned bearish in recent days. But even though the sudden change of sentiment could lead to a high-momentum breakdown below key support levels, that technically hasn't happened yet.

Yesterday, the S&P, Dow, and Nasdaq all tested and closed within a few points of their 20-day exponential moving averages (EMAs). Since the current rally began, three months ago, the 20-day EMAs of the major indices have acted perfectly as support, prompting stocks to subsequently resume the uptrend and move higher in the days and weeks that followed. This is clearly illustrated on the daily charts of the "big 3" stock market indexes below:







As the charts above illustrate, the 20-day EMAs have unquestionably been a clear area of support in recent months. So far, there is not convincing reason to believe this won't continue to be the case. Furthermore, notice each of the major indices is still holding support of its consolidation of the past few weeks (marked by the horizontal blue lines). As such, despite the bearish volume patterns and price action of the past few days, we would not be shocked if the main stock market indexes once again bounced off their 20-day EMAs, and attempted to rally from current levels. Nevertheless, downward momentum of the past few days could just as easily cause the major indices to enter into a significant correction this time around. It's also important to realize fear is a more powerful human emotion than greed. Therefore, remember selling pressure often feeds on itself much faster than buying pressure.

One of the determining factors of whether or not the broad market holds support will be the action in the financial sector. Volatility in the financials has dried up so much that the first convincing move in the sector will likely pull the major indices along with the sector. To illustrate this, take a look at the very interesting daily chart pattern of the Financial SPDR (XLF), a popular ETF proxy for the overall financial sector:



It's not too often we see a pattern where the price is squeezed so perfectly and tightly between resistance of the 200-day MA and support of the 20-day EMA, but that's exactly what has happened in XLF. Over the next few days, XLF now has very high odds of making a definitive, high-momentum break in one direction or the other. When it does, the direction of that move will likely be the same direction the broad market resolves itself, at least in the near-term. This is because the recovery in the financial sector, which began three months ago, has led the main stock market indexes higher.

After stocks opened yesterday's session near the previous day's lows, then immediately moved lower, the bearish market internals at the time prompted us to dip a toe in the water on the short side of the market. Per Intraday Trade Alert to regular subscribers, we bought the inversely correlated UltraShort S&P Midcap ProShares (MZZ), which was showing the most relative weakness. At the time of entry, our initial thought was to manage the position as a daytrade; however, because of yesterday's weak price and volume patterns, along with our substantial profit buffer on the trade, we kept the position overnight. If the market suddenly reverses sharply higher in today's session, we can be nimble by closing the trade for a scratch, or small loss, with no harm done. But the possibility of a high-momentum breakdown below support makes it a worthwhile proposition to see if bearish follow-through develops in the near-term. We also still have several long positions, so the ETF portfolio is now loosely "hedged." At key inflection points in the market, being positioned on both sides of the market, long the ETFs with relative strength, and short those with relative weakness, is not a bad idea.

Open ETF positions:

Long - UNG, SLV, IBB, SRS, MZZ
Short - (none, but SRS and MZZ are inversely correlated ETFs)

Deron Wagner is the Founder and Head Trader of both Morpheus Capital LP, a U.S. hedge fund, and MorpheusTrading.com, a trader education firm.