Last Thursday's surprising reversal off the previous day's lows vanished just as quickly as it came. Stocks gapped higher on Friday's open, but traders immediately sold into strength, setting into motion a steady intraday downtrend. By the closing bell, the major indices had given back most to all of Thursday's gains. The Nasdaq Composite fell 0.5%, the Dow Jones Industrial Average 1.1%, and the S&P 500 1.2%. The small-cap Russell 2000, the only major index that recently failed to rally above its September highs, showed relative weakness by sliding 2.1%. The S&P Midcap 400 lost 1.3%. The main stock market indexes closed in the bottom quarter of their intraday ranges.

Total volume in the Nasdaq increased 6%, while volume in the NYSE was 3% lighter than the previous day's level. The higher volume losses in the Nasdaq technically caused the index to register another "distribution day." However, fully all of the increased turnover could be attributed to the volume surges of Microsoft and Amazon.com, both of which gapped higher on massive volume last Friday. Trading in both exchanges came in right around 50-day average levels. Although volume in the NYSE receded slightly, market internals were firmly negative. Declining volume in the NYSE trounced advancing volume by a margin of nearly 7 to 1. The Nasdaq adv/dec volume ratio was more moderately negative, at 5 to 2.

As we enter the last week of October, the stock market is apparently at a pivotal, near-term inflection point. Both the S&P 500 and Dow Jones Industrial Average finished the week at the convergence point of their 20-day exponential moving averages (EMAs) and last month's prior highs. Below, this is shown on the daily charts of the S&P 500 SPDR (SPY) and Dow Jones DIAMONDS (DIA), popular ETF proxies for the two benchmark indexes:





Presently, SPY and DIA are merely in bullish consolidation patterns, chopping around near their recent highs. However, it's important both indexes hold above last week's lows because a closing break of those lows would cause the indexes to lose support of their 20-day EMAs and their prior highs from September. This would technically cause the short-term trends to reverse to "bearish," though the intermediate-term trends would remain bullish unless the October lows are broken (well below current prices).

As we've mentioned a few times over the past two weeks, one bearish factor of the broad market's recent action has been the relative weakness in the small-cap arena. In most uptrending markets, the Russell 2000 Index outperforms the S&P and Dow because its small-cap components are "aggressive growth" companies whose stocks are considered to be more speculative in nature. But this has not been the case throughout this month. Unlike the S&P and Dow, the Russell 2000 never managed to rally above its prior highs from September. Then, when the broad market corrected last week, the Russell fell more than the rest of the major indices, and is already below its 20-day EMA. If the Russell loses just one percent more, it will lose support of its 50-day MA, a closely-watched indicator of intermediate-term trend. Take a look at the iShares Russell 2000 Index (IWM):



We concluded our October 23 commentary by saying, "Certainly, there's still no reason to be aggressively positioned on the short side of the market, which is why we're only "testing the water" with a singular short position. Conversely, it's risky to step in and buy at current levels, right as the major indices test resistance of their recent highs, and with an overall bearish price to volume relationship to contend with. Therefore, the best plan of action may be to shift into "SOH mode" (sitting on hands). . .Right now may be a good time to do nothing (other than manage existing positions). When the market shows its hand for the next convincing move, in either direction, that will be the time to take action." Given the manner in which stocks quickly gave back the previous day's gains in last Friday's session, indecision is clearly the dominant, near-term theme right now. "SOH mode" prevented us from overtrading last Friday, and remains an excellent idea going into today.

Open ETF positions:

Long - USO, TBT, SEA, UNG
Short - SRS (an inversely correlated ETF we're long)

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.