By Robert W. Colby, Senior Analyst

“violated technical support” but oscillators and sentiment are already oversold

VIX “Fear Index” jumped to new high. Industrial sector is the most Bullish. Financial sector is the most Bearish.

VIX “Fear Index” jumped to 25.55, indicating the greatest level of fear in more than 4 years. Options traders are feeling very Bearish, which is Bullish according to the Art of Contrary Opinion.

On Friday, stock prices indexes violated technical support (no thanks to you, Mr. Fibonacci 0.618 retracement) in a steep drop on heavy trading volume. Despite previous official assurances, the latest credit market news strongly suggests that the problems may not be “contained” after all. Scary stories about deepening financial trouble for homebuilders, mortgage lenders, hedge funds and banks has ramped up Bearish sentiment—which is normal in a significant downside shakeout correction. Investors understandably fear the next “shoe to drop”, making for an unusually volatile and uncertain trading environment.

According to all short-term oscillators, stocks became very oversold during the 14 trading-day downside shakeout to date. Currently, these indicators are showing positive divergences by failing to confirm lower lows. These oscillators include RSI, Stochastics, Directional Movement, and Commodity Channel Index.

Spotlight on event stocks: Here is a stock screen I designed to pick out potential “event” stocks, both Bullish and Bearish. Sometimes, stocks with large changes in price and volume are revealed to be deal stocks, sooner or later, or are the subject of some other extraordinary events, positive or negative.

Bullish Stocks: Rising Price and Rising Volume
% Price Change, Symbol, Name

5.85% , MZZ , Short 200% MidCap 400 PS, MZZ
2.95% , ATVI , Activision Inc.
2.65% , MYY , Short 100% MidCap 400, MYY
5.53% , SDS , Short 200% S&P 500 PS, SDS
0.65% , IEF , Bond, 10 Year Treasury, IEF
1.21% , GLD , Gold Shares S.T., GLD
0.95% , PAYX , PAYCHEX
1.38% , IAU , Gold COMEX iS, IAU
0.99% , SLV , Silver Trust iS, SLV
2.10% , DOG , Short 100% Dow 30, DOG
1.25% , SNDK , SanDisk Corporation
4.35% , QID , Short 200% QQQ PS, QID
0.85% , EBAY , EBAY
1.20% , NUE , NUCOR
0.81% , K , KELLOGG
1.99% , LBTYA , Liberty Global Inc. (LBTYA)
0.25% , SHY , Bond, 1-3 Year Treasury, SHY
0.72% , VRSN , VeriSign Inc
0.31% , TIP , Bond, TIPS, TIP
0.30% , XRAY , DENTSPLY International Inc
0.02% , WAT , WATERS
0.36% , RTN , RAYTHEON

Bearish Stocks: Falling Price and Rising Volume
% Price Change, Symbol, Name

-3.10% , PHW , Hardware & Electronics, PHW
-2.75% , FPX , IPOs, First Tr IPOX-100, FPX
-3.86% , KCE , Capital Markets KWB ST, KCE
-4.25% , RZV , Value SmallCap S&P 600, RZV
-2.48% , TMW , Wilshire 5000 ST TM, TMW
-3.56% , DSV , Value Small Cap DJ, DSV
-2.57% , PEJ , Leisure & Entertainment, PEJ
-3.33% , PIV , Value Line Timeliness MidCap Gr, PIV
-3.48% , IYE , Energy DJ, IYE
-2.71% , SDY , Dividend SPDR, SDY
-3.43% , TBH , Telebras H, TBH
-2.25% , ELG , Growth Large Cap, ELG
-2.49% , VUG , Growth VIPERs, VUG
-2.89% , MTK , Technology MS sT, MTK
-3.07% , PWV , Value LargeCap Dynamic PS, PWV
-3.52% , PSI , Semiconductors, PSI
-3.58% , EWY , South Korea Index, EWY
-6.49% , XL , XL CAPITAL STK A
-4.85% , CIT , CIT GROUP
-3.41% , PWT , Growth SmallCap Dynamic PS, PWT
-3.63% , PKB , Building & Construction, PKB
-2.60% , VTI , Blend Total Market VIPERs, VTI
-2.22% , OEF , LargeCap Blend S&P 100, OEF
-4.24% , PXJ , Oil & Gas, PXJ
-3.14% , DSG , Growth Small Cap DJ, DSG
-1.61% , PBJ , Food & Beverage, PBJ
-3.77% , IYG , Financial Services DJ, IYG
-5.77% , ROST , Ross Stores Inc
-5.12% , PNC , PNC FINL SVC
-2.97% , IGW , Semiconductor iS GS, IGW
-5.97% , AMP , Ameriprise Financial Inc.
-4.27% , XLF , Financial SPDR, XLF
-4.22% , BK , BANK OF NEW YORK
-5.34% , EWM , Malaysia Index, EWM
-3.70% , SVU , SUPERVALU
-2.19% , JKH , MidCap Growth iS M, JKH
-4.48% , PWY , Value SmallCap Dynamic PS, PWY
-4.79% , BEAS , BEA Systems Inc

Sectors: among the 9 major U.S. sectors, all 9 fell.

Major Sectors Ranked for the Day
% Price Change, Sector

-0.19% Consumer Staples
-1.38% Health Care
-1.93% Technology
-2.05% Industrial
-3.07% Consumer Discretionary
-3.26% Energy
-3.35% Materials
-3.39% Utilities
-4.27% Financial

Looking beyond the daily fluctuation to the major trends (listed in order of relative strength):

Industrial (XLI) Bullish. Price held up above July lows. Relative strength made a new high. XLI has been relatively strong compared to the S&P since 8/9/06. Overweight.

Energy (XLE) Bullish. Price broke down to a new 3-month low. Relative strength made a new 5-week low. Longer term, XLE has been relatively strong compared to the S&P since 3/12/03. Overweight.

Technology (XLK) Bullish. Price held up above the August 1st low. Relative strength is rising. XLK has been relatively strong compared to the S&P since its low on 7/24/06. Overweight.

Materials (XLB) Bullish. Price broke down to a new 3-month low. Relative strength made a new 5-week low. Longer term, XLB has been relatively strong compared to the S&P since 9/27/00. Overweight.

Consumer Staples (XLP) Improving. Price held up above July lows. Relative strength made a new 3-month high. XLP has been relatively weak compared to the S&P since 10/9/02. Market weight.

Utilities (XLU) Bearish. XLU has been relatively weak compared to the S&P since 4/2/07. Underweight.

Health Care (XLV) Bearish. Relative strength jumped up sharply to a new 1-month high. Longer term, relative strength just made a new 5-year low on 7/19/07. Call it short-term maybe improving but long term Bearish. Underweight.

Consumer Discretionary (XLY) Bearish. Price made a new 9-month low. Relative strength made a new 10-month low. The sector and has been relatively weak compared to the S&P since 1/5/05. Underweight.

Financial (XLF) Bearish. Price fell to a new 12-month low. Relative strength made a new 6-year low. Underweight.

Foreign stocks outperformed since 7/26/07. The long-term trend is still Bullish: EFA (the EAFE, international developed country stock markets, ex the U.S. and Canada) has outperformed the S&P 500 since 3/19/03.

NASDAQ underperformed the S&P since 7/27/07 but outperformed since 5/17/07. Appears uncertain short-term.

Growth sharply outperformed Value since 5/16/07. Longer term, the major trend of Growth/Value, mostly Bearish for seven years, appears to have turned Bullish.

Large Caps beat Small Caps since 4/19/06, and that trend in is motion. Relative Strength of Large/Small Caps just made a new 2-year high.

Crude Oil prices broke down below 4-day lows, which could be a warning for the short-term…or maybe just a minor pullback. Crude made a new 10-month price high on 7/31/07, so the longer-term trend is Bullish. The U.S. OIL FUND ETF (AMEX: USO) remains in its uptrend since its shakeout low at 42.56 on 1/18/07.

Energy stocks underperformed both SPY and USO. Long term, since 3/12/03, the stocks in the Energy Select Sector SPDR ETF (XLE) have significantly outperformed crude oil as a commodity, as well as the S&P 500. So, the Relative Strength major trend is Bullish for the energy stocks.

Gold broke out above 6-day price range. Gold benefited from the flight to safety, but that trend could be temporary. Longer term, StreetTRACKS Gold Trust ETF (NYSE: GLD) has underperformed the S&P since the GLD top on 5/12/06.

Silver rose modestly but still has substantially underperformed Gold since 6/5/07. Longer term, iShares Silver Trust (AMEX: SLV) broke down to a new 6-month low on 6/26/07 and underperformed GLD since 12/7/06. So, the main trend is relatively Bearish.

The Gold Miners Index (XAU) underperformed Gold since 7/19/07. XAU also underperformed Gold since 1/31/06. In fact, Gold mining stocks have substantially underperformed both Gold and the S&P 500 for more than 20 years.

Deflating: inflation expectations plunged steeply to new 2-month low. They been falling since 6/22/07. The ratio of the price of bond TIPS to 10-year U.S. Treasury Notes indicates declining inflation expectations.

U.S. Treasury Bond prices jumped to a new 11-week price high on 8/3/07. The shift from risk to safety was renewed last week as the fundamental news took a turn for the worse. The short-term bond price trend has been Bullish since the price low on 6/12/07. But since the peak at 97.66 on 6/16/03, the long-term trend appears Bearish for iShares Lehman 20+ Year U.S. Treasury Bond ETF (AMEX: TLT).

U.S. dollar fell sharply below 6-day price range. Such downside momentum looks serious. Longer term, the dollar fell to a new 15-year price low on 7/24/07, confirming the major trend as Bearish.

Daily Rankings of Major Global Markets, Ranked from Strongest to Weakest of the Day:

1.05% Swiss Franc
0.73% Euro Index
0.52% Japanese Yen
0.40% 30Y T-Bond
0.38% British Pound
-0.05% Canadian Dollar
-0.12% Australian Dollar
-0.19% Consumer Staples
-0.45% Austria
-0.60% US Dollar Index
-0.82% Switzerland
-0.95% Biotechs
-1.13% Italy
-1.18% Health Care Products
-1.23% Airlines
-1.23% Spain
-1.38% Health Care
-1.40% Japan
-1.46% Drugs
-1.49% Health Care
-1.56% AMEX Composite
-1.82% Netherlands
-1.84% Germany
-1.86% Hospitals
-1.86% Belgium
-1.88% Gold Mining
-1.89% United Kingdom
-1.92% Canada
-1.93% Technology
-2.05% Industrial
-2.09% Dow Industrial
-2.18% Taiwan
-2.22% France
-2.23% Computer Tech
-2.27% Chemicals
-2.36% DOT
-2.39% Paper
-2.44% Nasdaq 100
-2.48% Sweden
-2.50% S&P 100
-2.50% Semiconductors
-2.51% Nasdaq Composite
-2.53% Commodity Related
-2.59% NYSE Composite
-2.62% Internet
-2.64% Russell 1000
-2.66% S&P 500
-2.68% Wilshire 5000
-2.72% Russell 3000
-2.81% Natural Gas
-2.92% S&P Mid Caps
-2.92% Dow Composite
-3.00% REITs
-3.07% Consumer Discretionary
-3.14% Network
-3.16% Disk Drives
-3.19% Value Line
-3.26% Energy
-3.35% Materials
-3.39% Utilities
-3.48% S&P Small Caps
-3.51% Mexico
-3.58% South Korea
-3.60% Australia
-3.61% Dow Utilities
-3.64% Russell 2000
-3.64% Insurance
-3.67% Oil Services
-3.76% Dow Transports
-3.77% Oil
-3.95% Retailers
-4.07% Banks
-4.27% Financial
-4.27% Hong Kong
-4.46% Singapore
-4.61% Broker Dealers
-4.66% Hardware
-5.13% Brazil
-5.34% Malaysia

To sum up the current position of the U.S. stock market:

Looking beyond the recent short-term downside shakeout, longer term, the U.S. stock market has shown impressive Bullish resilience since the major low on 10/10/02, more than four years ago. Stock prices have been buoyed by abundant global liquidly (following years of fiscal stimulation, rapid money supply growth, and rising corporate profits), M&A, and earnings comparisons above expectations.

Liquidity driven merger and acquisitions news has been helping to keep the old Bull alive. Both U.S. and foreign corporations hold excess cash after several years of rising profits, and so M&A speculation as well as leveraged buyouts and corporate stock buybacks have provided substantial Bullish stimulus to stock prices. In 2007, mergers and acquisitions are running about 60% ahead of 2006’s record pace, driven by rising stock prices and private-equity funds that raised more than $250 billion for takeovers since the start of 2006. Takeovers are on track to surpass 2006’s all-time high of $3.49 trillion, according to data compiled by Bloomberg.

Conservative earnings estimates also have been useful in keeping the old Bull alive. First quarter 2007 corporate earnings reflected a significant growth slowdown. Nevertheless, earnings were ahead of expectations, which had been lowered to very conservative levels in advance of actual reporting. Managements and Wall Street have learned that investors hate disappointments, so they simply don’t give them any–unless absolutely necessary.

Investors might perceive anything that threatens to end abundant global liquidly, M&A, leveraged buyouts, corporate stock buybacks, and the net balance of positive earnings surprises as threats to the popular Bullish scenario.

Stocks generally are fully valued to over priced by long-term historical standards. Although that alone does not mean that stocks cannot continue to trend higher (as they have the great majority of the time since 2003) nevertheless, it is good to remember that “no tree grows to the sky.” The cyclical nature of stock prices never really changes, although the turning points are not always easy to predict.