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Sentiment Makes a Dramatic Move

There are two distinct issues in the market right now.

The Market

There are two distinct issues in the market right now.

The first is that we are overbought. Remember, just because the market is overbought doesn’t mean it has to go down. Stop for a minute and recall that we were oversold -- grossly oversold -- in mid-August. I think I wrote about the oversold condition for a week before it mattered. Let’s begin with a chart of the Russell 2000 for this example. The green arrow represents the initial oversold condition.

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The blue arrow represents the still-oversold condition one week later. Yes, we got a nice one-day rally off the oversold condition but that secondary decline was awful, and more so, that oversold condition persisted an additional two days before the market cared at all. Just because we were oversold stocks didn’t have to rally and just because we’re overbought they don’t need to go down. But more often than not either condition eventually catches up with the major indices.

Now look at the number of stocks making new lows in August; we can use the NYSE or Nasdaq but let’s use Nasdaq here. Again, using green and blue arrows we can see the contraction in stocks at new lows at the "still oversold" condition that took place one week after the initial oversold condition.

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Now look at the number of stocks making new highs. For this I will use the NYSE, but I could just as easily used the Nasdaq. The green arrow represents the reading earlier last week and the blue one represents Friday. Now there is a contraction in stocks making new highs.

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Just like eventually the fewer new lows and oversold condition led to a rally, the current overbought condition and fewer new highs should lead to a pullback.

Next, there is the area of sentiment. I could use any one of several sentiment indicators for this but because it’s so dramatic in its move I will show you the CNN Fear & Greed Index. At the lows back in August it stood at 17. Now it stands at 77. Recall the extremes for this are under 20 and over 80. It might not make it to 80, but we can see how far it’s come in so short a time span.

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That leaves us with a market that is overbought, a bit frothy in terms of sentiment as well as narrowing (new highs contracting). However, the breadth of the market remains strong and the McClellan Summation Index is still rising. It seems to me we should see some pullbacks in the week ahead. Maybe it’s just a chop-fest. Consider how many stocks have churned sideways since last Tuesday in a choppy fashion.

New Ideas

I was asked to follow up on Arcos Dorados (ARCO) - Get Free Report, which was in the Q&A section just over a week ago. It continues to act well (notice the "churn" on the chart since Monday’s rally; that’s what I am talking about, above). It still measures to $11.40-ish longer term and $10.40 in the short term. The stop is below $9 to give it some leeway. If it trades above $10 then I would lift the stop quickly.

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Today’s Indicator

The new highs and new lows are discussed above in full. The charts are there as well.

Q&A

Helene welcomes your questions about Top Stocks and her charting strategy and techniques. Please send an email directly to Helene with your questions. However, please remember that TheStreet.com Top Stocks is not intended to provide personalized investment advice. Email Helene here.

I was asked if Teva Pharmaceutical (TEVA) - Get Free Report has finally bottomed. I still have no idea. When we looked at TEVA a month ago I said it was oversold enough to bounce but there was no sign of a base. That's still the case today. I would buy a move to $16 for a trade since that would close the gap. Aside from that I do not have a strong sense of anything except that it finally bounced so the process of basing can now begin.

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Mylan (MYL:Nasdaq) has a similar issue as TEVA: there is no base to speak of. It will take many months for MYL to have a base worthy of bottom fishing for more than a trade. My guess is the first test comes in the next few weeks. But can it hold this $30-ish level on the trip back down?

With better charts in healthcare out there I’m not sure why you’d want speculate in these two names, especially before the end of September as we head into the end of the quarter (who wants to show these on their books?). And then we get into mutual fund tax loss selling season in October. Seems to me MYL and TEVA might be decent candidates for that.

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AutoNation (AN) - Get Free Report has been a terrible stock most of the year but a few weeks ago it broke out across a base. My only issue is that there is a measured target at $47-$48 so the stock likely gets stuck in this area as it pushes toward this resistance area. But if AN pulled back toward $44-$45 it would be an interesting chart since a stop under $43 would be close.

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