Market Heads Toward Being Overbought

So we got our seasonal rally into the final days of the month as well as the standard Thanksgiving rally days. At least something around this market feels more normal.

Statistically, things are better as breadth has improved which in turn helps all the indicators. We know that is not an issue. What is an issue is the upcoming overbought nature of the market.

The overbought/oversold oscillator will not be overbought for one week. Recently, however, the market has not waited until it is maximum overbought before it has started to the downside. Perhaps that will change now, but I wouldn't count on it.

There are some other factors that lead me to believe we are heading toward an overbought reading. To begin with, the McClellan Summation index is heading up, which is bullish. However, when I calculate a "what-if" to see what it will take to turn it down I find that is has a pretty good cushion. It would require a net differential of -4500 (advancers minus decliners) to turn this down. In the past, when this indicator has required something in the -5000 area, it usually is considered overbought (the reverse is true, as you might recall I noted recently that it would take +5000 to send the indicator higher and the next day we started this rally).

Another measure of the market's being overbought comes from the index put/call ratio. I've harped on this enough so I won't harp on it again. The reading from Wednesday's action was 89%, so once again it was a reading under 100%. I cannot offer Friday's reading as apparently the Chicago Board Options Exchange decided not to update its Web site on Friday. With any luck they will correct that Monday. However, we know that it is very rare to get three readings in a row that are under 100%. In the past it has meant we are close to a correction.

But now the International Securities Exchange call/put ratio has chimed in on this as well. Its reading on Friday was 137%. The previous readings in this area were Nov. 14, which found the S&P 500 fall to 740 in the next week from 870. Prior to that it was this high on Oct. 20, which found the S&P go to 850 from 985. Prior to that was Sept. 22, which basically was the beginning of the long slide down.

Finally, I have explained before that the 50-day moving average of the all the major indexes are still heading down and this week we begin to drop the time just after Sept. 19 (see S&P chart above). That means the moving average should fall quickly this week and it would be only a matter of days before we run smack into these still declining moving average lines. This is just another reason that the market being overbought makes some sense.

I don't want to sound so dire here since there is a bit of good news on the horizon. When we look at Nasdaq relative to the S&P we find that when this ratio comes down under 1.7 we tend to get better rallies in the market. Nasdaq's underperformance on Friday, as well as just prior to then, has helped move this ratio down to the 1.71 area. Therefore, an overbought pullback in the market that had Nasdaq underperform the S&P would likely be beneficial to the markets as it ought to get the ratio down under 1.7 and set us up for a longer lasting rally.

In the near term I would not be chasing the rally as I expect we'll pullback later this week. But if we can get that ratio down and the other indicators (the McClellan Summation index in particular) can stay positive I would like that about the market.

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Know What You Own: Meisler mentioned the S&P 500. Some stocks in that index include ExxonMobil (XOM - commentary - Cramer's Take), Wal-Mart (WMT - commentary - Cramer's Take), Cisco Systems (CSCO - commentary - Cramer's Take), Coca-Cola (KO - commentary - Cramer's Take), Verizon (VZ - commentary - Cramer's Take), Hewlett-Packard (HPQ - commentary - Cramer's Take), and Apple (AAPL - commentary - Cramer's Take).

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At the time of publication, Meisler had no positions in any stocks mentioned, although holdings can change at any time.

Helene Meisler writes a daily technical analysis column and TheStreet.com Top Stocks. For more information, click here. Meisler trained at several Wall Street firms, including Goldman Sachs and SG Cowen, and has worked with the equity trading department at Cargill. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. She appreciates your feedback; click here to send her an email.