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Despite news backdrop, expect a retest of last week's highs by year end


Here is where it gets even more interesting. The market has now been down five days in a row and there is no longer a lot of talk of a run away train to the upside. The market indices and its components have now worked off the severe near-term overbought condition. That is the good news because it can lead to a rebound back to last weeks high. The bad news is that the major market indices and its components have moved into extreme overbought territory on the intermediate-term charts (weekly) and is losing momentum. That is bad news because it suggests that any move higher from here should lack any significant momentum and as a result is likely to fail - even if marginal new highs are made.

It all makes sense in the context of an intermediate-term countertrend rally that goes further and lasts longer than most expect. In early October, the market had become extremely oversold and extended to the downside, suggesting a very favorable risk/reward environment toward stocks vs. bonds. Clearly that is no longer the case. Over the last two months, stocks have surged and bonds (non corporate) have tanked - even when taking the recent pullback into account.

Remember how many times the individual investor has heard that "the market has bottomed" after a 20% plus move. Who knows, maybe it has, but the point is that both the fundamental and technical backdrop suggests that investors are in a position to adopt a wait and see approach. Even if the fundamentals do not show significant signs of improvement and the market is ultimately going to new lows, it takes time turn the positive momentum that has developed over the last seven weeks. Why - because this pullback gives those that "missed" the surge an opportunity to get back in the game to make up for some performance.

Unlike in the initial stages of this countertrend rally where there were no sellers allowing for a big surge, the market has moved up enough and long enough for the aggressive traders to short the rally given the intermediate-term overbought condition and for those that bought early in the rally to take money off the table on a retest of last week's high.

Bottom line is that for the next month or two (depending on action) supply and demand are likely to be near equilibrium even with an uncertain news backdrop.

Have a great weekend and enjoy the snow
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