Following through on the previous day's decline, stocks registered another round of losses yesterday, but afternoon stabilization enabled the major indices to pare a significant portion of their morning losses. Recovering from an intraday low of 1.8%, the benchmark S&P 500 Index finished 0.5% lower. The Dow Jones Industrial Average lost 0.6% and the Nasdaq Composite fell 0.8%. The small-cap Russell 2000 shed 1.2%, as the S&P Midcap 400 declined 1.0%. The main stock market indexes near their afternoon highs, but only around the middle of their intraday ranges.

Turnover was mixed. Total volume in the NYSE increased 7% above the previous day's level, while volume in the Nasdaq eased 7%. In both exchanges, trading remained above 50-day average levels. Recently, we said higher volume declines can actually be positive for the market if a sell-off has already been in effect for a period of time. But we also said at least one session of higher volume gains is necessary before one should even consider getting back on the long side of the market with ETFs correlated to overall stock market direction. While selling volume may soon reach a near-term exhaustion point, we need to see some institutional buying interest step back into the markets thereafter. Until that happens, the burden of proof remains with the bulls.

Yesterday, our short position in iShares Basic Materials Index (IYM) hit our original downside price target, enabling us to cover and lock in a gain of nearly 7% (4 points) with a hold time of just over one week. Below, we've annotated our entry and exit points on the IYM short trade:



In addition to IYM, we also covered our short position in iShares Russell 2000 Index (IWM) yesterday morning. Though we only realized a small profit on the IWM trade, we didn't look the way it was acting, as it appeared to have lost its relative weakness in the preceding days. Recall that IWM also required a bit of tweaking to our stop price a few days ago, due to resistance of the hourly downtrend line converging with the original stop price. Therefore, we made a judgment call to just lock in a gain, rather than letting it move back to a losing position in the event of a market bounce.

The most notable event of yesterday's broad market action was that the S&P 500 again bounced off long-term support of its 200-day moving average. In yesterday's commentary, we said of the May 7 price action in the broad market that, "the S&P 500 registered another session of losses, but notice the 200-day moving average provided support that coincided with that day's intraday low (circled in pink on the chart). We feel there's a good chance that will happen again, though an intraday "undercut" of 1 to 2% below the actual 200-day moving average would not be surprising." To recap, here's the chart we showed going into yesterday's session:



Now, here's an updated chart of the S&P 500 that includes yesterday's price action that followed:



Notice the 200-day MA perfectly acted as support to catch the S&P 500 yesterday morning, helping the broad market to reverse and close off its worst levels of the day. Obviously, it's positive that the S&P 500 held its 200-day MA, a major indicator of long-term trend bias and sentiment. However, we also said, "an intraday "undercut" of 1 to 2% below the actual 200-day moving average would not be surprising." Such shakeouts below obvious levels of support, enabling large funds to scoop up shares at much lower prices, are common during highly volatile periods of decline.

Based on pre-market futures action, the S&P 500 is now poised to open about 1% below its 200-day MA. The ability or inability of the index to recover and close above its 200-day MA in today's session will have a pivotal role at determining the market's next move. A test of the actual intraday lows of May 6, driven by panic selling, could occur if the S&P is unable to close above its 200-day MA today. Conversely, it would be positive if the index holds its 200-day MA. Again, that would prompt us to look for a subsequent session of bullish accumulation, followed by new setups on the long side of the market. Be sure to account for the higher than usual volatility in the market right now, such as through making adjustments to position size on all trades.

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.