Last week's review noted continued signs of weakness among the indicators and questioned the market's upside potential. We did, indeed, see weakness during the week, with the market moving into moderately oversold territory (top chart) and expanding the number of stocks registering fresh 65-day lows (middle chart), as a number of broad indexes tested their July lows. Still, even with the decline, all was not looking right for the bears. Sectors that had led the downside, such as retail, housing, and financial issues, were no longer behaving in a weak manner. We began seeing divergences among many of the indicators, suggesting that the weakness in the NYSE Composite, NASDAQ 100, and S&P 500 Index were not being mirrored across the broad range of market sectors. Indeed, if we look at 52-week lows among the S&P 500 stocks (bottom chart; credit to Decision Point), we see a clear drying up--not an expansion of weakness.
With the government's bailout of the GSEs, we're now seeing a sizable rally before the market open on Monday. I will be watching the follow-through on this rally carefully to judge whether we have put in a significant bottom in the stock market. If we have, we should sustain a positive NYSE TICK with broad sector participation. This would set the conditions for a decisive break above the resistance at the 1300 region in the S&P 500 futures. Failure of a follow-through on the rally would return us to a mode of probing the July lows. The market doesn't really care with whether you agree with the government's actions or not; our job as traders is to read supply and demand. So far, we saw waning demand as we approached 1300 and then waning supply as we broached the July lows. A pick up in demand here would be potentially significant, triggering substantial short-covering. I'll be updating indicators each AM before market days via Twitter.
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