Overselling Weighs Heavy on Market Growth

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Wow! In the old days it would've taken the market several days or even a few weeks to do the sort of drop we saw in the past week. Now, four (yes four!) trading sessions takes the market to an extreme oversold reading. By Tuesday we managed to get to an oversold level not seen since last December.

I base my overbought/oversold oscillator on the 10-day moving average of the net differential of the advance/decline line. Therefore if we get a negative reading in the advance/decline line (let's use -500 for this example) and 11 days prior to that (the number we are dropping in the moving average) the a/d gave us a net of -600, then we are in fact adding +100 to the equation. That means the downside momentum is lessening and we're oversold. That's what happened on Tuesday this past week.

The averages looked as though they couldn't rally as they opened higher and closed lower. But behind the scenes the advance/decline line was already showing positive readings. That followed right through to the big rallies on Wednesday and Thursday.

Just before this big whoosh down there were many strategists who conceded the market was a bit high and might have a correction. But they were, for the most part, noncommittal with regard to the downside. But, ahh, come Monday you couldn't find an outright bull on

CNBC

. All of a sudden those bullish folks had turned distinctly correction-minded. They were coming out of the woodwork to proclaim their views of a 5%-10% correction. It was almost like watching

Titanic

when the ship was sinking and they were running from one side to the other to avoid going into the ocean. No anticipation, just reaction. Their sudden comfort with the downside made me nervous. I hate having too much company.

So, is this just an oversold rally and the decline will resume as soon as the oversold reading is relieved? Maybe.

The power behind this oversold rally may continue and force some of the indicators positive again. For that reason I have taken a close look at individual stocks and their reactions to this rally.

Tops don't form in a day, especially after a run such as we've seen. It's a process that we must go through. Down, up, down, up. It's important that we begin to watch the action in individual stocks to see how they perform on the rallies now. Are they participating or are sellers taking profits into the rallies?

I have chosen

Abbott Labs

(ABT) - Get Report

as one stock to watch. Abbott is a slow and steady stock, not prone to the wild gyrations of a technology name, and it's in the health-care group, one of this year's winning groups.

Abbott made a low in October, along with the market averages. Its selloff in December made a higher low and it never even had a hiccup in the January decline. All very positive action. Its steady rise continued until mid-March, when Abbott made a high just shy of 79. A small correction down to its uptrend line followed that high, which led to a bounce off that uptrend line, and on to a new high at 79 1/2. But wait! Take a close look at that new high in early April. It only traded there intraday. Abbott closed down on the day, at its low, and kept on sliding for almost four weeks. It had no problem smashing through that uptrend line that it'd held so well before.

This recent decline has taken the stock down to levels not seen since January. (So if you bought this stock after the market made a low in January, it's likely you are now underwater, yet you thought you bought a good stock in the right group, eh?)

Our job now is to figure out where Abbott is going. Abbott should rally back to its resistance area, which begins at 74 (the level from which it bounced off the uptrend line in late March) and goes to 76-ish (that's the underside of the broken uptrend line). At that point I would expect the stock to come down again and break this recent low.

This process takes time. Lots of time. The rally took six months. Why shouldn't the decline take at least three? Or maybe four. We don't know how much time, but we do know the process.

Not every chart, or even every drug chart, looks the same as Abbott, but it's a lesson in how long it can take for the top to form. You can see that if you own Abbott Labs it doesn't make a difference if the market is oversold. The rally in this stock may only get you back to even, although the market averages may surge to new highs.

For those of you wondering what other charts look like Abbott, I have compiled a list of some that are in the same stage. These include

Merck

(MRK) - Get Report

(sell at/near 128),

Anheuser-Busch

(BUD) - Get Report

(sell at 47),

AT&T

(T) - Get Report

(sell at/near 62), and

Sara Lee

(SLE)

(sell up a point or two).

Others are just now having their first bounce off their uptrend lines (i.e. where Abbott was in mid-March). We need to watch these names for failures on their rallies. They include

Coke

(KO) - Get Report

,

General Electric

(GE) - Get Report

,

Chase Manhattan

(CMB)

,

Gannett

(GCI) - Get Report

and

Fannie Mae

(FNM)

.

Basically, the action in the averages this past week appears to have been a wash, going nowhere since the opening bell on Monday. Down, up, down, up. But how has your portfolio done? Are your stocks back where they started the week?

Helene Meisler, based in Singapore, writes a technical analysis column on the U.S. equity markets for TheStreet.com on Fridays. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Meisler trained at several Wall Street firms, including Goldman Sachs and Cowen, and has worked with the equity trading department at Cargill. She appreciates your feedback at

KPMHSM@aol.com.