Short-Term Overbought
by Carl Swenlin

In my February 2 article I stated my belief that a medium-term correction is in progress because the PMM Percent Buy Index (PBI) has turned down and crossed down through its 32-EMA. The chart below shows this condition still exists, and I have not changed my mind at this point.

Some readers pointed out that a similar occurrence in 2003 did not have serious negative effect on prices. I agree, and I should have mentioned this in the article. There is, however, a big difference in the 2003 PBI top and those that occurred afterwards. That 2003 top occurred after a huge upward thrust of the PBI from deeply oversold levels that signaled the beginning of the bull market. The PBI has not been that deeply oversold since.

This week the market has rallied, once again challenging recent highs and straining the credibility of any bearish outlook, but in doing so it has become quite overbought in the short-term, while also approaching overhead resistance.

The overbought condition can be seen on the chart of our OBV Indicator Set* below. The Climactic Volume Indicator (CVI) has reached the top of its normal range, and the ST Volume Oscillator (STVO) is not far behind. These are short-term indicators.

The internal problem with the rally can be seen on the Volume Trend Oscillator (VTO), which is a medium-term indicator. Note how the rallies in April and October were launched from deeply oversold levels on the VTO, whereas the current rally launched after the VTO had only dropped to neutral levels. The same problem exists on the charts of many other medium-term indicators. While the rally may continue, its pedigree is pretty weak, and indications are that it has run out of steam short-term.

While we can use indicators to evaluate market conditions and anticipate problems and opportunities, we still rely on mechanical models to determine what our market posture should be. The following table shows the status of our primary medium-term models for the major indexes and spider sectors as of the close on February 16.

************************ DECISION POINT MARKET POSTURE **********************

                                     Days   Index     02/16   Points  Percent
Index               Posture     Date Elap  @Start     Close      P/L      P/L
------------------- ------- -------- ---- -------   -------  -------  -------
S&P 500                 BUY 11/04/05  104  1220.14  1289.38   +69.24    +5.7%
Dow                     BUY 11/07/05  101 10586.23 11120.68  +534.45    +5.0%
Nasdaq 100          Neutral 02/13/06    3  1645.83  1688.61     ....     ....
S&P 100                 BUY 11/07/05  101   563.30   585.79   +22.49    +4.0%
S&P Equal Wt (RSP)      BUY 11/04/05  104   160.84   174.15   +13.31    +8.3%
S&P 400 MidCap          BUY 11/07/05  101   715.78   774.73   +58.95    +8.2%
S&P 600 SmlCap          BUY 11/10/05   98   347.03   377.02   +29.99    +8.6%
Wilshire 5000           BUY 11/09/05   99 12227.02 12987.59  +760.57    +6.2%

Consumer Disc (XLY)     BUY 11/01/05  107    31.67    33.71    +2.04    +6.4%
Consumer Stpl (XLP) Neutral 02/07/06    9    23.18    23.62     ....     ....
Energy (XLE)            BUY 11/16/05   92    47.68    51.46    +3.78    +7.9%
Financial (XLF)         BUY 11/02/05  106    30.11    32.37    +2.26    +7.5%
Health Care (XLV)       BUY 11/10/05   98    30.57    32.50    +1.93    +6.3%
Industrial (XLI)        BUY 11/07/05  101    29.91    32.37    +2.46    +8.2%
Materials (XLB)         BUY 10/31/05  108    27.26    31.27    +4.01   +14.7%
Technology (XLK)        BUY 11/07/05  101    20.75    21.85    +1.10    +5.3%
Utilities (XLU)         BUY 12/16/05   62    32.60    31.76    -0.84    -2.6%

As you can see, there are very few cracks in the wall so far -- only the Nasdaq 100 and Consumer Staples have dipped sufficiently to cancel their buy signals. For all the indexes shown, long-term conditions are still too bullish to permit sell signals. If the buy signals fail, the market posture will change to neutral.

*About the On-Balance Volume (OBV) Indicator Set: The Climactic Volume Indicator (CVI) measures extreme OBV movement within the context of a short-term OBV envelope for each stock in the index. The Short-Term Volume Oscillator (STVO) is a 5-day moving average of the CVI. The Volume Trend Oscillator (VTO) summarizes rising and falling OBV trends. These charts tell us if the index is overbought or oversold based upon volume in three different time frames. To read more click here.

BIO: Carl Swenlin is a self-taught technical analyst, who has been involved in market analysis since 1981. A pioneer in the creation of online technical resources, he is president and founder of DecisionPoint.com, a premier technical analysis website specializing in stock market indicators, charting, and focused research reports. Mr. Swenlin is a Member of the Market Technicians Association.