Be Careful in an Overvalued, Overbought Market

NEW YORK (TheStreet) -- I debuted my themes for the 2014 stock market on Jan. 2 in, "Stocks Begin 2014 With Inflating Bubbles." I explained that even if new intraday all-time or multiyear highs continued to occur, the downside risk exceeds the upside potential for the five major equity averages. Overly simplified, my market call for 2014 is that the major averages will test their 200-day simple moving averages at some point during the year.

I have been saying that stock picking would be extremely difficult in an overvalued, overbought stock market. (On Jan. 8, I wrote "Inflating Market Bubble Not Quite Ready to Pop.") I maintain my long-term concerns about the stock market.

The Fundamentals -- ValuEngine continues to show an extremely overvalued stock market. We show that 85.2% of all stocks are overvalued, with 53.3% overvalued by 20% or more. Only 14.8% are undervalued, and only 4.8% are undervalued by 20% or more. All 16 sectors are overvalued, with 12 overvalued by 23% to 38.2%. This is the reason why you see stocks plunge by 10%, 20% or more following disappointing earnings or other stock-specific negative news.

Difficult stock picking is exemplified by Best Buy (BBY)(26.83). The retailer plunged by 28.6% on Thursday when they reported weaker than expected holiday sales. The stock opened well below its 200-day simple moving average at $33.74 and is still 8.5% overvalued. The stock closed between my quarterly value level at $24.82 and my annual pivot at $27.34.

The Weekly Technicals -- All five major equity averages have positive but overbought weekly chart profiles. I define "overbought" as weekly closes above five-month modified moving averages with 12x3x3 weekly slow stochastic readings above 80 on a scale of 0 to 100. To confirm cycle highs, we need to have simultaneous weekly closes below five-week MMAs for all five major equity averages, with the stochastic readings declining below 80. That would be my signal of a major market top with risk to the 200-day simple moving averages, which were not tested at all in 2013.

Some momentum stocks continue to lead. For example, Google (GOOG)($1156.22) set another all-time intraday high yesterday. But how many retail investors want to buy a stock trading at $1,156.22 per share when the stock is 45.9% overvalued, with a one-year price target at $1,178.15 according to ValuEngine?

My Proprietary Analytics -- Four of the five major equity averages set new all-time or multiyear intraday highs on Jan. 16, except the Dow Jones Industrial Average, which set its all-time high of 16,588.25 on Dec. 31. The Dow traded down to 16,240.60 on Jan. 13, holding its semiannual value level at 16,245. It then rebounded to 16,505.28 on Jan. 15, as my monthly pivot at 16,327 proved to be a magnet. The 200-day SMA is 15,398, which is between my annual value levels of 14,835 and 13,467. If stocks continue to set new highs the upside to my quarterly and semiannual risky levels is at 16,761 and 16,860.

A stock pick that could have been avoided is Dow component Intel (INTC) ($26.54). The stock was downgraded to hold from buy by ValuEngine earlier this week, so it's not a shock that the stock fell 5% after hours on Thursday. The stock was 26% overvalued, with a one-year price target at $27.55 vs. its multiyear intraday high at $27.12 set on Dec. 15. The high was between my semiannual pivot at $26.33 and my semiannual risky level at $28.95.

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