Markets & Finance

Time to Stay on the Sidelines?


By Mark Arbeter The entire market took it on the chin last week as the recent slide in the Nasdaq finally dragged the rest of the market with it. The slide was swift, leaving major indexes very oversold and in a position to bounce. Volume rose as the decline worsened, in what could be described as a mini-capitulation. However, it is too early to tell whether the worst of this pullback is over.

The S&P 500 dropped very sharply through its 50-day exponential

moving average on Wednesday, Mar. 10, and fortunately found

support at an important intermediate-term trendline. This support line starts back in May and has successfully been tested twice, adding to its significance. The index also found support from its 80-day exponential moving average, which has acted as support since last April.

The quality of the rallies from here will be very important and will go a long in determining whether a bottom is forming. The clues will come from internal market data as well as volume. Quite simply, strong breadth data accompanied by higher than average volume during the rally attempts will go a long way towards repairing the technical condition of the market and setting it up for another move higher.

The first piece of

resistance that the S&P 500 will have to deal with is the lower end of the recent consolidation, and that begins in the 1,122 area. This consolidation runs all the way up to the recovery highs, so the whole area between 1,122 and 1,160 can be considered chart resistance. The 50-day exponential moving average lies at 1,130 and is now resistance.

As far as support goes, the recent low at 1,106 is the first important piece of chart support. A potential target, based on the width of the recent consolidation, gives us a measured move down to 1,095. Intermediate-term chart support starts at 1,080 and there are fairly good layers below that level. The 150-day exponential moving average comes in at 1,078 and a Fibonacci retracement of 23.6% of the advance off the March lows targets the 1,074 level.

As we mentioned earlier, the action by the S&P 500 from Monday through Thursday last week can probably be considered a mini-capitulation. The 4-day rate-of-change (ROC) fell to -4.3% during the latest decline and this is the weakest 4-day performance by the S&P 500 since January, 2003. The 6-day relative strength index or RSI fell to 14.85, the lowest since September, 2002, and the 14-day RSI (31.9) is the most oversold since February, 2003.

Another indication of a mini-washout was that few stocks escaped the downdraft. For instance, consumer staples, which have been outperforming of late, fell along with technology and cyclical issues. With the oversold condition in conjunction with a mini-exodus out of equities, the market is certainly set-up for some short-term strength.

Weekly momentum indicators have issued sell signals so we think that at best, this pullback is not over from a time perspective, and possibly from a price perspective. Also, weekly moving average convegence/divergence (MACDs) and stochastics remain overbought and weekly RSI's have only moved into a neutral stance. Until these overbought conditions are worked off, intermediate-term upside is limited and more downside is certainly possible.

Like the S&P 500, the Nasdaq has also moved to a fairly extreme oversold condition on a daily basis and is positioned for some short-term strength. The index has seen a fair amount of technical damage since mid-January, breaking through many areas of support. On the positive side, the index has declined into an area of strong chart support that starts at 1,990 and runs all the way down to 1,790. The Nasdaq closed at 1,943.89 on Thursday, getting support from a 23.6% Fibo retracement of the advance since March, which lies at 1,946. A break of this area would target the next Fibo retracement (38.2%) of 1,817. Another piece of support comes from the 200-day exponential moving average at 1,879.

Overall volume on both the NYSE and the Nasdaq accelerated into Thursday's session, with very heavy volume seen on Thursday as investors threw in the towel. Volume breadth models on both the NYSE and the Nasdaq are decisively bearish for the first time since January, 2003. Declining sessions have been accompanied by rising volume and advancing days have occurred on falling volume. This is clear evidence of distribution by institutions. Until we see evidence that institutions are back accumulating stocks, the best place to be remains on the sidelines.

The volatility index (VXO.X) on the S&P 100 (OEX) exploded this week, rising to 21.7% on Thursday, an increase of 47% over a 4-day period. This type of increase over a very short timeframe is rare and when it does happen, it usually is when the VXO is headed to an extreme level of 40% to 50%. The VXO had been in a pattern of lower highs and lower lows for the last year, so this break higher bears watching closely. The VXO also broke above its 200-day moving average for the first time in a year, and usually this is not a positive sign. However, since it is coming off such a low base, it is not likely that the VXO will move to an extreme level during this pullback or correction. Arbeter, a chartered market technician, is chief market analyst for Standard & Poor's


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