In the last Intermediate-term Summary from December 5th, we touched on a few positive signs that renewed a glimmer of optimism about a pending rally of one to three months' duration.

At the time, we were seeing quite a bit of doubt from investors about the sustainability of the Thanksgiving rally, prices were able to hold up well in spite of short-term overbought conditions for one of the few times this year, and we were seeing some extreme changes in breadth that have had a good record at preceding rallies in the past.

A minor negative was that we were entering the soft underbelly of December seasonality.  The month tends to sag during the middle couple of weeks, before becoming more positive near the end of the month (and year).

Those somewhat conflicting signals ended up giving us a market that has gone...precisely nowhere.  We've been oscillating right around that general 875ish area on the S&P 500 now that we were near the beginning of the month.

In the meantime, we've recorded a few unusual readings, mostly in terms of breadth (i.e. the number of advancing versus declining stocks, and/or the volume associated with each).  Despite a market that has essentially gone nowhere, we're beginning to see more and more "overbought" types of readings.

On December 8th we took a look at the Up Issues Ratio, which had reached a level we could consider excessively overbought.  But that could be a good thing - the last 13 times it has occurred, the market rallied over the next one to three months every time.

Another anomaly occurred the following day, with the Up Volume Ratio.  The ratio computes the amount of volume that is flowing into stocks that were up on the day, expressed as a percentage of total volume.

Over the prior two weeks, we had seen consistently heavy buying pressure, enough to push the 10-day average of the Up Volume Ratio to just under 70%, the first time in more than 20 years we've seen such an extreme.

The chart below shows the two-week Up Volume Ratio in terms of how many standard deviations it is stretched from its one-year average.  As we can see from the chart, what we were seeing was 3 standard deviations away from "normal".

That was historically rare.  The chart below shows the four other times since 1940 that it has happened.

The average six-month return following the other instances were all positive, and all greater than +13% (averaging nearly +20%).  It's tough to rely heavily on only four precedents, but they were all fairly consistent, which helps.

As an aside, that one-year average of the Up Volume Ratio is currently residing at 46%.  It has been at this level or lower only three other times since 1940 - the spring of 1970, December 1973 and the fall of 1974.  This is news to nobody, but it helps to underscore the fact that we're seeing the current level of shorter-term extreme buying interest in the context of a tape that is immensely oversold on a longer-term time frame.

One of the concerns among traders, however, is that the rally began to stall out during mid-December.  And even while stocks haven't made much progress, several longer-term indicators have worked off their severe oversold conditions from October and November, and some are beginning to flirt with overbought.

A good example of that is the 21-day average of the Up Issues Ratio.  This breadth oscillator has done a pretty good job at highlighting oversold and overbought conditions during the latest bear market, and it once again moved back to the very upper end of its trading range.

We had three issues that should be a negative sign for stocks:

1.  We are in a bear market

2.  Stocks were fairly weak, with the S&P not even closing at a one-month high

3.  Longer-term breadth oscillators were becoming overbought

A couple of weeks ago we looked back over the past 68 years, and looked for any other such occurrences.  The table below highlights all such occurrences since 1940, along with the performance in the S&P 500 going forward.

Similar to the 10-day average of the Up Volume Ratio that we discussed above, this one showed quite a bullish tint going forward.

Even though the underlying breadth of the market was clearly overbought in these precedents, the extreme nature of the buying thrust was a sign that we were seeing nascent buying demand that tended to continue, and had a predisposition to occur later in a bear market rather than sooner.  Three months later, only two instances showed negative returns (and one just barely at that).

More surprising is that six months later, all but one were positive and with an admirable average return of +15.1%.  On average, the worst the S&P dipped at any point during the next six months was -3.7% compared to an average maximum gain of +16.5%, showing a reward more than four times greater than the risk.  Obviously, since we're seeing greater volatility now than at any point in history, we need to take these average returns with a grain of salt if trying to apply them to our current situation.

With the market not really going much of anywhere lately, it's difficult to make a bullish or bearish case on a technical basis.  The market has really done nothing "wrong", but it hasn't really done anything "right", either.  We're kind of in a no-man's land, twisting between 850 on the bottom and 920 on the top.  Until we make a concerted effort to break away from either level, things seem pretty neutral.

Our sentiment guides would mostly agree, though over the past several sessions we've seen the Smart Money Confidence drop to 50%, and the Dumb Money climb to 58%.  That's quite a change in the latter from only 13% near the November lows, so obviously the thought of a New Year's rally has intrigued a lot of folks.

That doesn't seem to be an especially encouraging sign, but given the breadth thrusts that we reviewed earlier in this comment, I'm still giving the upside the benefit of the doubt and will look for still higher prices to come.  That will likely be the case until we either become clearly overbought or overly optimistic, or we break down below 850 (and especially 820).  Until or unless either of those happen, things will still look OK for now.