Look for Beaten-Down Winners

We have discussed the extreme readings in our intermediate-term SARSI indicator and the historical results of following these buy signals. This is the silver lining to the pain and turmoil of the past few weeks.

We have been discussing the evidence of our oversold readings and a plethora of other technical data suggesting the market was close to a low of some sort. Wednesday and Thursday's sessions truly tested our mettle as to whether they were going to work this time.

It appears that we got that low, and the Fed's decision to lower the discount rate provided some relief to the markets. We won't go as far as saying its smooth sailing from here, but this is the first sign of improvement.

Now that we have the reversal day and a day of follow-through, the odds favor some continued recovery. We have been attempting to point out places to help us bob and weave around the turbulence in past weeks. It hasn't been easy, as that turbulence has affected just about every sector and the majority of individual stocks.

We break the stock universe down into about 70 groups. All but five of these are at oversold levels, with the five that aren't being in defensive sectors, such as health care. There are a few ways to benefit from a continued recovery.

A potentially volatile but effective way is to buy the stocks that are down the most during the decline. The sectors and stocks that have pulled back first and fallen the hardest are the ones that have been sold the most either from long sales or short sales.

The lowering of the discount rate helps the banks, so let's consider a countertrend recovery in the money-center banks which may have been painted with too ugly a brush. We aren't making any suggestions about the credit problems being over. We are just looking for a countertrend trade as the selling pressure abates.

Citigroup

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In this regard, Citigroup (C Quote) is a good candidate. The stock has held long-term support at the $44-$46 level, the volume has been intense in both the rally and the decline, suggesting a real knife fight between buyers and sellers. This was all resolved to the upside on Thursday when the largest volume since the decline began took the stock higher. We could see a countertrend rally taking the stock to the $52 level in the near term. More than that would most likely require some resolution to the credit concerns.

iShares Dow Jones U.S. Real Estate ETF

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One other area that has been crushed of late has been the sector comprising real estate investment trusts, or REITs. It has been a one-two punch for the REIT sector, as real estate concerns, and now credit concerns, have clobbered this sector. Once again, there has been little if any differentiation made, and the majority of issues have been decimated. This area is also due for a rebound, and we would consider this another sector to look to for a bounce.

Rather than picking through the carnage, we suggest just using an ETF for this countertrend rally. The iShares Dow Jones Real Estate ETF (IYR Quote) is a good proxy. This ETF has made an undercut low on huge volume but did not continue lower. Instead, the ETF reversed, rallying sharply. This is good short-term price action, suggesting the selling has abated for now. This low was not confirmed by most indicators -- another encouraging sign. We would look for continued lift back to the upper $70s to $80 level.