Maximum Oversold but after a bounce it may still not be quite over yet.

It was quite the nasty day in the market. I wrote last night that I was expecting a bounce because ST momentum indicators I track were already very oversold and only got more oversold in the past when there was a crash. Well, perhaps crash was too strong word....mini-crash/panic is more like it. We got that today. Take a look at what I mean...the following chart is the overbought/oversold indicator for the NASDAQ. Look at how rarely extremely oversold we are. It's only been this extreme a handful of times in the past several years (I know the chart below only goes back to 2007 but trust me on this one). The only time it got more extreme was during last year's Sept-Oct once in a lifetime crash.



There's good news and bad news to this extreme oversold reading. The good news is that we've likely seen the bulk of this decline since the market make it's most recent high. The bad news is that after a bounce (which now is almost certain to start either tomorrow or Friday) there will likely be a retest or lower low (I'm thinking the latter but we'll cross that bridge when we get there). At that point we should see the OB/OS oscillator make a higher low and thus a positive divergence.

Other good signs are that the VIX has spiked significantly and has now gone from oversold to just about overbought and the total put/call ratio came in at 1.11. The signs of froth in the option market that I warned about before is rapidly dissipating.
I'm also noticing a tremendous surge in courage from the bears out there....the same bears by the way who have shown no respect at all for this rally all the way up and got burned many, many times anticipating it's end. They are now fully prepared and willing to go short on any rallies. This is exactly the type of behavior that characterizes bull market corrections during the early stages of a new bull market.

Check out this excerpt from an article I just read from Bloomberg...

Oct. 29 (Bloomberg) -- An eight-month, 68 percent rally in global stocks failed to convince investors and analysts that it’s time to take on more risk or dispel their concerns about U.S. economic policies and its banking system.

Only 31 percent of respondents to a poll of investors and analysts who are Bloomberg subscribers in the U.S., Europe and Asia see investment opportunities, down from 35 percent in the previous survey in July. Almost 40 percent in the latest quarterly survey, the Bloomberg Global Poll, say they are still hunkering down. U.S. investors are even more cautious, with more than 50 percent saying they are in a defensive crouch.

“The doubt and the pessimism just won’t go away,” says James Paulsen, who helps oversee $375 billion as chief investment strategist at Wells Capital Management in Minneapolis. “They’re still so shell-shocked by what they went through despite the improvement in the market and the economy.”


This folks is a long term wall of worry....a 100 feet high, 15 feet thick solid concrete wall of worry. For the bear market to resume under these conditions would be quite difficult if you ask me. Bear markets happen when people drop their guards not when they acting like frightened turtles. Of course, nothing is impossible and I never deal in absolutes...it's always about probabilities...I just feel that it is highly improbable for the bear market to resume with this type of a sentiment backdrop.

Bottom line: It's likely we've seen the bulk of this correction. It's now almost a certainty that the market will see a ST rebound either tomorrow or Friday but it's likely that a retest of the low or lower low lies ahead before a final low is registered. I still haven't seen the "all clear" sign yet from the trusty dumb money trader indicators I follow which have been pretty accurate. But it should be said that confirmation can often happen after the low is put it.

What I plan on doing is putting some cash to work is some individual stock names that I've had my eye on which have shown great resiliance to this downdraft in the market thus showing relative strength. I have about 85% in cash and the longs that I've kept have actually gone up since this drop began this week including today! How lucky am I? Well, to credit myself, I only kept these longs because they appeared to be acting solely on company specific fundamentals showing near 0 correlation to the market which so far, they have been doing.

I'll pull the trigger on a long side index trade if again; I see the proper set up. I won't be as picky this time because the market is so extremely oversold now...but I will still be picky. When in doubt I will stay out...defense first offense second.

Here's the way I think before pulling the trigger on a trade...if I believe the market or a stock is going to go in certain direction I need some sort of evidence/sign/confirmation to indicate to me that the market may be agreeing with me otherwise I feel that I'm just guessing. And I never blindly trade on just indicators, trend lines, ect... for me there's an intuitive element to it which comes with experience and gut instincts. As a result of the above it often allows me to be wrong about a hunch I had and yet not lose a dime. And don't read this wrong....I DO in fact make losing trades and get whipsawed as I've shown here before.

Tomorrow’s GDP number could be a market mover....I hope everyone's been holding up well in this market.