There was very little in the action on Friday that swayed my view that the market should reach an overbought condition, likely accompanied by excessive sentiment in early July.
Let's begin today with the Overbought/Oversold Oscillator. You might have noticed that considering the rally in the market last week that oscillators based on price have moved up, but my oscillator, which is based on breadth, has barely budged.
An initial take would lead us to think that sounds bearish. I'll say it is concerning, but based on the math behind it I do believe we should see the oscillator move upward this week. It is based on the 10-day moving average of the net of breadth and for the next five trading days that moving average will drop negative breadth readings. When we drop negative readings and replace them with positive ones (or even less negative ones) the moving average rises. That is the case for both Nasdaq and the New York Stock Exchange. So, unless the market falls apart into the end of the quarter -- which is not my assumption -- we should see the oscillators lift this coming week.
But since the last five trading days have seen breadth positive that means just after the July 4 holiday, this indicator should be fully overbought, setting itself up to drop a long string of positive readings. The question will be how good breadth will be. Will it be good enough to get the oscillator to a higher high? By higher high, I mean the last high, the one in early June. A lower high means a negative divergence because the S&P and Nasdaq are both at new highs already.
I believe there is some catching up to do, but I do not know if the catch up will be enough to push these oscillators to a higher high yet.
What I will be utterly surprised at is if the number of stocks making new highs can double from where they are now. Currently hovering in the 200 range for each Nasdaq and the NYSE, they are both at significantly lower highs than we have in the spring.
On the sentiment front, Nasdaq's minor red day on Friday did manage to pull the Daily Sentiment Index (DSI) for Nasdaq down from 88 to 85. Now the S&P and Nasdaq are both at 85. The Volatility index had no change at 14.
As noted previously minor pullbacks in the index tend to reset the DSI, so now we have a set up where if we do rally more this week, which is my assumption, we will see the DSI readings get extreme around the same time the Oscillator is reaching an overbought condition.
Typically an overbought condition coupled with extreme sentiment is a recipe for a pullback. And that is why I have pegged the early July time frame for that.