Technical Talk: Correcting some excess bullishness

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The comments below were provided by Kevin Lane of Fusion IQ.

As seen in the chart below the S&P 500 Index pulled back to its uptrend line near 1,194 (green line) on Friday. Just underneath this uptrend is secondary minor support in the 1,187 to 1,181 range (red lines). At this point the recent sell-off appears to be correcting an overbought and slightly near-term over-bullish sentiment trade.

Though things may get a bit slippery, we aren’t expecting a huge sell-off at present. If we were to drop below those aforementioned levels, then the next big support level will be in the 1,150 area (orange line).

As seen in the chart that follows, bullish sentiment as measured by the American Association of Individual Investors (AAII) is at its highest level since the 2007 peak. We believe this minor excess in bullish sentiment coincided with complacency about the Fed’s QE2 policy. However, if a setback does occur we believe it will be relatively shallow as market breadth of late has been strong.

We are watching the banks very closely during the beginning of the week to see whether their recent strength was for real or a head fake. If it is the former, the market should regain its bid fairly quickly. However, if it is the latter and the banks break down again, we can expect a deeper pullback to 1,150 on the S&P 500.

Source: Kevin Lane, Fusion IQ, November 15, 2010.

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