Getting off to a positive start on the open, the major indices were initially poised to build on the previous day's gains, but a bearish morning reversal sent stocks into negative territory by mid-day. The broad market bounced off its intraday lows in the afternoon, then drifted back down into the close, leaving the main stock market indexes with moderate losses. The S&P 500 slipped 0.2%, the Nasdaq Composite 0.3%, and the Dow Jones Industrial Average 0.5%. Although the small-cap Russell 2000 lost 0.5%, the S&P Midcap 400 Index bucked the broad weakness with a 0.3% advance. The Dow closed near its low of the day, as the S&P and Nasdaq settled around the bottom quarter of their intraday ranges.

On the surface, yesterday's losses seemed modest. However, higher volume across the board showed a more negative situation "under the hood." Total volume in the NYSE swelled 20% above the previous day's level, while volume in the Nasdaq increased 10%. The higher volume losses caused both the S&P 500 and Nasdaq Composite to register a bearish "distribution day." In the S&P, it was the third such day of institutional selling in recent weeks. As recently mentioned, the presence of more than four "distribution days" within a period of several weeks usually derails any rally attempt, and precedes a significant stock market correction. Nevertheless, because Monday's volume was repressed due to the Yom Kippur holiday, it didn't require a major increase in turnover for the major indices to register higher volume.

Upon scanning hundreds of charts last night, we noticed many ETFs had a similar pattern. Last week's pullback caused numerous ETFs to retrace to support of their breakout levels, at their August highs, as well as their 20-day exponential moving averages. The September 28 rally that followed caused them to bounce off support of their August highs, which was not surprising. Then, yesterday's session saw many of those ETFs slip back down, but still hold above their September 25 lows. Below are the charts of four different ETFs that illustrate this pattern:









Overall, this creates an interesting situation we view as a transitional point in the stock market. If the numerous ETFs with patterns similar to those above hold support of their September 25 lows in the coming days, it could very well lead to yet another rally to new highs of the year. But if a plethora of ETFs suddenly start closing below their September 25 lows, the stock market will be peppered with failed breakout attempts that could quickly spark a wave of downside momentum. Tests of the 50-day moving averages could very realistically follow in succession..

Normally, we'd say the pullbacks to the August highs and 20-day EMAs are low-risk buying opportunities. However, the increasing count of bearish "distribution days," representative of institutional selling, prevents us from being overly confident on the long side of the market right now. Conversely, the market has not yet provided enough technical justification for getting aggressive on the short side. Therefore, the wisest plan of action, at least in the near-term, may be to lay low with regard to new trade entries, at least until the market shows its hand. As for our current positions, we've intentionally focused on building a portfolio of positions with low overall correlation to the direction of the broad market, thereby reducing our risk. Being hedged on both sides of the market, long the sectors with relative strength, and short those with relative weakness, may be the astute trader's best bet. When trend resolution presents itself from here, positions can be jockeyed to shift net exposure in the direction of the short to intermediate-term trend.

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.