Snapshot Notes - October 27, 2006

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FRIDAY, OCTOBER 27, 2006

PostCloseSummary

10/27/06 5:00 PM EST

Towards yesterday's close, we got another true momentum extreme, as our short-term guides hit an historic overbought level.

Looking at something that summarizes them all, the STEM.MR model hit 14% as we approached the close. We'd seen similarly stretched readings in the model three other times since the rally really kicked into gear in September, and every time it coincided with a stall-out in the rally. This told us to expect any further upside attempts to be limited and almost certainly given back within the week.

We didn't have to wait long, as we saw weakness right out of the gate today, and cautious comments from Goldman on the semiconductor sector helped the pullback gain steam. During the trip lower, both the Russell 2000 and Nasdaq 100 breached their breakout levels, for the time being qualifying yesterday as a failed breakout.

This is something I went over yesterday, indicating it was a growing concern given the sentiment readings we were getting. This doesn't mean the end of the bull market is over, it just suggests that buyers are not likely going to be able to sustain pressure in the short-term. I still do expect the first solid short-term oversold reading we see (if we see one) will bring buyers back, but until the RUT and NDX are either able to re-claim those breakout levels, or we get some oversold indications from our short-term guides, I'm focusing on short trades.

On a longer-term basis, towards the close the latest Commitments of Traders report was released. In it, we see that commercial traders (aka the "smart money") increased the dollar value of their net short position to $34 billion, from $30 billion last week. This remains an intermediate-term red flag.

Have a safe and relaxing weekend and we'll see you here next week!

ApproachingTheBell

10/27/06 3:25 PM EST

Some negative comments from Goldman Sachs on semiconductors seems to have caused a big slip in that group. On October 18th, I highlighted the failed breakout in SMH, and now that semi-related ETF is approaching its lows from September. This is most certainly something to keep front and center.

Both the Russell 2000 and the Nasdaq 100 have sliced below their breakout levels that I have been mentioning ad nauseam lately, and as per my earlier notes I plan on focusing on short trades as long as those two indexes remain below their (temporary?) failed breakout levels of 770 and 1730, respectively.

The NDX several times has dipped about 45 points from each successive high since the July low, and if we saw a similar situation this time, then it would take us down to around 1700 - a familiar level for anyone reading these notes for the past few weeks.

This market has consistently fooled anyone betting on sustained downside by reversing back to rally mode after the briefest of dips, but given the extremes we reached yesterday, I think there's more chop (at best) to go.

LunchtimeLull

10/27/06 12:25 PM EST

The bounce from the morning lows has been steady, but rather anemic so far. As has been this market's modus operandi for the past few months, the first test of the breakout levels in the Russell 2000 and Nasdaq 100 served to set up a bounce, now we just have to see if it'll take them to new highs as it has previously.

Our short-term guides have been working off their extremes reached yesterday afternoon, but they've already told us what we need to know - that we hit a peak in momentum yesterday afternoon and we're not likely to see another sustained move in the short-term either way.

Additional rally attempts from here should be beat back over the coming days (especially with the May highs looming just above in the RUT and NDX). If we see a bona-fide failure of yesterday's breakout, though, we should travel a bit more on the downside given some of the extremes we've been seeing. The first solid oversold readings we get should serve to halt the decline, but if not, then we'd have the first piece of evidence since the July low that traders aren't willing to put more money at risk by buying the dips.

MidMorningOutlook

10/27/06 10:25 AM EST

Good Friday morning...Yesterday afternoon I mentioned that several of our short-term guides had hit historical overbought extremes as we approached the close of trading.

When we see our short-term STEM.MR model jump so far out of its trading band like we saw yesterday, in the context of a strong uptrend it typically results in choppy conditions going forward - further upside attempts are almost always given back within the week, and the first bout of selling pressure almost always brings in buyers as those who missed the rally see their opportunity.

We've seen this play out on three separate occasions just since September, and now we'll see if the pattern holds. With the weakness out of the gate this morning, both the Russell 2000 and Nasdaq 100, the indexes I have been focusing on, retreated to those breakout levels and right on cue we're getting the expected bounce off the first test.

I'm waiting to find out if this holds. For short-term trading purposes, I think we're going to be headed into another period where buying short-term oversold conditions and selling short-term overbought ones should work well - like I noted above, we don't typically see a sustained move after the kinds of extremes we saw yesterday afternoon.

If this first bounce doesn't carry too far (meaning to new highs), and RUT and NDX drop and hold below 770 and 1730, respectively, then I'll be concentrating on shorts until they either rally and hold back above those areas, or our short-term guides cycle back down towards oversold again.

All the best,

Jason Goepfert

President and CEO

Sundial Capital Research, Inc.

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