An oversold bounce is due, but…

During the last two weeks the market has
experienced a much needed (and long anticipated) decline, and now it is due a
bounce out of a short-term oversold condition; however, the decline could
continue for a few more months.

On our first chart below we can see that the CVI (Climactic Volume Indicator)
and the STVO (Short-Term Volume Oscillator) have reached deeply oversold levels
and have turned up. This is a pretty good indication that a short rally could be

Also, note the rising trend line I have drawn on the chart. For several months
it has acted as support as the market worked its way higher. Unfortunately, that
line has been decisively penetrated, and it will now function as overhead
resistance. My guess is that any rally will not exceed 1300 on the S&P 500.

The next chart shows three of our primary medium-term indicators — one each for
price, breadth, and volume. The ITBM (IT Breadth Momentum) and ITVM (IT Volume
Momentum) Oscillators have become modestly oversold, but the PMO (Price Momentum
Oscillator) has only just passed through the zero line and is nowhere near the
level where other declines have ended. Also, the violation of the short-term
rising trend line suggests that the decline will continue at least to the bottom
of the medium-term rising trend channel.

The best-case scenario is that the decline will end once the PMO, ITBM, and ITVM
turn up from oversold levels, which might only take a few more weeks; however I
want to call your attention to the March-August 2004 correction. Note that
indicators (and the market) made three oversold bounces before the correction
was finally over.

Bottom Line:

An oversold bounce can be expected, but there is plenty of room (and need)
for a continued decline longer-term. Our primary timing model for the S&P 500
switched from buy to neutral on Friday, so I am inclined to believe we are in
for some rough sailing over the next several months.

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
, 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