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By Lawrence G. McMillan

For the second time this year, the stock market has suffered a severe decline in an unusually short period of time. Declines like this used to take weeks, and now they occur in a couple of days. Nearly every indicator is now in some sort of oversold state, but "oversold does not mean buy." One must wait for confirmed buy signals, and even then the early ones are often stopped out in a market like this.

Yesterday's (October 11th) low was in the general area of support at 2700-2710 for $SPX -- a level that provided good support in late May and again in late June. There should be resistance between 2760 and 2800. The equity-only put-call ratios remain on sell signals. Both of these were technically on sell signals from late September, but their erratic behavior in August and early September had led us to question their relevance. Now, they seem to be back in synch, as they are moving contrary to the market.

Market breadth was one of our leading, negatively divergent indicators. Now the breadth oscillators are still on sell signals but are in deeply oversold territory. They are not near buy signals yet.

Volatility has finally begun to rise a bit. $VIX stayed stubbornly low for months on end, correctly confirming the general bullish nature of the stock market. But on October 8th, it finally closed above 15, and that was the bearish signal we had been waiting for.

That pretty much sums up the market analysis. So, we have a number of extreme oversold conditions that are going to generate short-term buy signals.

The question that remains is, "Is this just another short-term correction in the market, or are we heading into a bear market -- something that hasn't been seen in over 10 years?" Both are possible, and it seems that the short-term will get a lift, but the intermediate- term is more bearish.

This Market Commentary is an abbreviated version of the commentary featured in The Option Strategist Newsletter.

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