October 26, 2020

CNBC: Signs are flashing of an overbought stock market


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overbought_stocksBy John Morgan From Moneynews

Are things just too good to be true for the high-flying U.S. stock market?

Maybe. There are warning signs that there might be a bit too much froth in the frosting, CNBC reported, but investors are simply ignoring the signals.

“One of the biggest red flags out there is that there doesn’t seem to be any red flags out there,” Paul Hickey, co-founder of Bespoke, told CNBC.

For starters, there are suspicions that investors are becoming too complacent.

The latest American Association of Individual Investors survey showed the lowest amount of pessimism about the market in the past 21 months, while optimism is the highest it’s been in 10 months.

There are also questions about valuations. The Standard & Poor’s 500 now trades at more than 16.5 times earnings, higher than the market average of 15.8.

“In the short term, the market is dramatically overbought. From that perspective, the market could flame out, but who knows when and at what level,” said Peter Boockvar, chief market analyst at the Lindsay Group.

Next up on the CNBC warning radar is momentum. Momentum stocks received a sharp wakeup knock earlier in the week, when a dramatic selloff in Netflix proved contagious to other overbought market darlings, leading to stop triggers and shorts being forced to cover.

“I think that’s potentially a canary for the market,” Boockvar said.

At the same time the momentum stocks were running for cover, other popular stocks like Google, Amazon and Microsoft were seeing dramatic gains — a potential warning sign of shrinking leadership.

Finally, CNBC noted margin debt rose to a record high of $401 billion in September, which could help unravel the market in pronto fashion in the event of a big downturn.

Even though these signs are flashing, that doesn’t mean a sell-off is around the corner.

Art Cashin, director of floor operations at UBS, told CNBC that stocks could still rise even though there are some warning signs.

“It gets your antenna up, but it’s not a clear signal in itself. I think we need to get past earnings season and see what happens,” he said.

MarketWatch columnist Lawrence McMillan believes U.S. stocks are definitely in an overbought state.

“However, it should be noted that an overbought market can continue to move higher on its own momentum for a while, until actual sell signals appear,” McMillan wrote.

“Now isn’t the time for complacency,” he concluded.

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