Rally Needs More Recruits

A decent short-term advance could be in the cards. But the bear won't be beaten until price gains are accompanied by stronger trading volume

By Mark Arbeter

The major indexes have traced out potential, minor double-bottom reversal formations over the last couple of weeks, and in conjunction with two days where the market reversed nicely on an intraday basis, it all suggests that a decent short-term rally could be in the cards. However, any rally is not likely to turn into an intermediate-term event as volume remains very poor and overhead resistance remains formidable.

For the S&P 500 to complete this minor reversal formation, the index would have to close above the recent high of 851. A few targets would then come into focus. Adding the width of the double bottom and projecting that above the breakout point would yield 885. A 50% retracement of the decline from the closing high of 938.87 on Nov. 27, 2002, to the closing low of 817.37 on Feb. 13, 2003, would target the 878 level.

In addition, chart resistance is major when the S&P 500 gets back up to the 870 to 875 zone. The potential of a possible move higher is certainly nothing to get excited at this time and we would not advocate trying to play it.

We look to catch the more robust, intermediate-term moves and there has been no indication that one has started, although we believe that the market has a pretty decent chance of seeing a good shot to the upside within the next two to four weeks.

What has us a bit more encouraged about the prospects for a decent intermediate-term move is market sentiment. The American Association of Individual Investors poll is more oversold than at any time since 1990. Bears total 57.9%, the highest level since November, 1990, which was right near the market bottom. Bullish sentiment on the AAII has fallen to 21.1%, an extremely low level.

Two other shorter-term investment polls are also giving off bullish readings. The Consensus poll has fallen to only 23% bulls, the lowest level since near the market low in July, 2002. MarketVane recently dropped to 24% bulls, the most bearish that participants of this poll have been since near the bottom in October, 2002. Summing the latest readings from both polls gives us 50%. Anything below the 55% area is considered bullish for this measure.

As we mentioned in the past couple of weeks, put/call ratios have already moved to extremely high levels, signaling the potential for upcoming market strength.

The two pieces of sentiment that have not moved to bullish configurations and would certainly give us more confidence that a more long-lasting bottom had been put in place are the Investor's Intelligence poll and the Volatility index, or VIX.

The II poll has been slowly moving to a more neutral stance over the last three months and now stands at 40.4% bulls and 36% bears. At the intermediate-term lows of the bear market, bears have risen above bulls for only a few weeks at a time, and only by a slight amount.

While the AAII poll is near the levels seen during the low in the fall of 1990, the II poll is nowhere near the bearishness witnessed in 1990. During the bottom in 1990, bears exceeded bulls for 26 straight weeks and by almost 28 percentage points.

The VIX recently moved up to the 40 area, which has during the bear market led to a couple of decent counter-trend moves of 10% to 20%. However, at the major lows since 1997, the VIX has tended to move to the 50+ area. As stated before, the VIX has only reached extreme levels during washouts when the market gets pounded for three to five or more days.

Market internals are only slightly negative. The most important volume breadth models we run all remain in bearish configurations, but are certainly not falling apart. New lows as a percentage of issues traded on both the NYSE and the Nasdaq had recently moved to levels that warranted some caution. However, looking at the bigger picture, the percentage of new lows on the NYSE is much lower than it was in October, and this suggests some improvement in price patterns over the past few months.

While there have been some modest improvement in some of the technical indicators that we monitor, the most important parts of the bullish equation are still missing. There must be a period of very strong price gains accompanied by heavy volume before the bear can finally be put to rest.

Arbeter is chief technical analyst for Standard & Poor's

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