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Signs of Vulnerability in the Middle Ground

While I think we can rally again sometime early next week, this concerns just the short-term outlook.

The Market

Several readers have asked in the last few days if I think the market is a giant top. They also want to know if we are going down, perhaps on the magnitude of 2000 or 2007.

While I was negative at both of those highs, I never would have said in advance that I thought we would fall as much as we did. All I knew was that the market felt more like a high than a low. And keep in mind, when you consider giant tops, that the collapse in both of those cases came at least one year after the peak.

My point here is that even if you think we are in a bubble, the likelihood that we will collapse right here and now -- meaning that we go down 40% or more -- is not high. In both cases mentioned, we came down in layers, not all at once.

Looking at the big picture, I see a market that has struggled all year. In January and February, I said I expected choppiness, which is what we have. Wild swings in sentiment are what you get when markets gyrate as much as ours have done. In a trending market, sentiment settles into complacency.

The signs of vulnerability that I see in the intermediate term include the number of stocks making new highs, which continues to contract, not expand. We are sitting right near the highs and today only 130 NYSE stocks reached new price levels. It is hard to make a lot of money when you have so few stocks doing that.

Another sign is the lethargy with which the McClellan Summation Index has turned back up. Should the market drop next week (as I expect it will), this indicator will likely reverse and head down again. In fact, the Nasdaq has rallied about 150 points from the lows, and yet the indicator is barely up. A net negative of -600 million shares on the Nasdaq will send this indicator right back down. That is not much of a cushion, is it?

In addition, the 50-day moving average line for the Nasdaq now runs a real risk of rolling over. Fifty trading days ago was in mid-February, when the index was trading around 4200. The moving average now lies at 4200-ish, so a failure to get back over this line soon (within the next one to two weeks) will probably pull the moving average down. Downward-sloping MA lines act as resistance; upward sloping ones typically do not do so with much strength.

So when I say I think we can rally again sometime early next week, I am talking about the relatively short term. And I will keep an open mind. Should the indicators and statistics improve, then I would not continue to call these divergences bearish.

How far down can we go? That is always the question, and it is not easy to answer. And now, in my three-plus decades of watching markets, I have never seen so many investors turn so bearish so quickly when a market sells off. Nor have I seen so many stocks act so poorly without the indices getting hit as hard. How can so many momentum favorites be down 20% or more while the tech-heavy index barely goes down 10%?

In the meantime, I still think we can have another upside try. But as you could see today, the upside tries are getting sold.

Read Helene's latest column here.

New Ideas

I will go through the chart books this weekend to see if I can come up with some bases for longer-term investments. Those charts have had some success this year. They are getting much harder to find, which is why the market is becoming much choppier.

Let us take another look at the chart of the Biotech iShares (IBB:Nasdaq), an ETF to own the biotechnology stocks. Here we have a chart that was down 25% in six weeks and has rebounded nicely. The resistance is overhead at $245-ish, and I think the stock ought to try to get there. But if it cannot make it to that level, it would show us that buyers were unwilling to step up even when the stocks are down. It would also indicate that the series of lower highs and lower lows remained in place.

On a short-term basis, $225 (today's spike low) is key and $235 (the high early this week) is crucial on the upside. If the market comes down in layers, then chances are that IBB will trade sideways for a while, using up the oversold condition before it turns down again.

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Today's Indicator

The 10-day moving average of the put/call ratio did not move up or down last week and since then has remained in a churning mode. As I said earlier, sentiment is confused.

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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.

Goldman Sachs (GS) - Get Free Report did collapse right after we looked at it a few weeks ago. It missed my downside target near $150 by almost two points. GS is now back at or near resistance, so I expect it to run out of steam up here in this $165-ish area. If it can make a firm stand over $165, I would consider myself wrong.

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International Game Technology (IGT) - Get Free Report still has an unfulfilled target in the $11-$12 area. This downdraft might finally be "it" on the downside. If it is, I would expect that the chart would have to build a base before launching any upside of interest. On a very short-term basis, IGT ought to rally early next week, according to the Three-Day Rule. But if you are hanging your hopes on that, there are better stocks in which to bottom fish.

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At the beginning of this year, I flagged the SPDR S&P Metals & Mining ETF (XME) - Get Free Report as a long-term base. I still think it is one. There is an upside target that has been unfulfilled at around $46-$47. Clearly, with a strong push over $43-ish, that should be the next target. While I would prefer to see XME stay over $41, there is real support all the way down to $39. But over $41 would be better, and over $43 even better than that!

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