Stocks fell on Monday with the Dow Jones Industrial Average retreating from an 11-month high on the light volume that is typical following a quadruple-witching Friday. Monday's declines were similar to what the market delivered last Thursday when I was last visited with you. Nothing too alarming, at least on the surface, but the drop may portend more weakness to come. The Dow fell 41.34 points to close at 9778.96 and the S&P 500 gave up 3.64 points to close at 1064.66. The Nasdaq, as has been the case so often through this rally, was the ''shining star,'' gaining 5.18 points to finish the day at 2138.04. Eight of the 10 industry groups tracked by the S&P 500 declined on the day with healthcare and technology the lone gainers.

Stats Table

Again, speculation that stocks are overextended continues to be the reason most pundits attribute to these little declines that the market has been delivering. Of course, the other side of that argument is that the market rarely moves up on a straight line. Still, it appears that the camp expecting a pullback after such a voracious rally is growing and it might be reasonable to expect that investors want to see more than companies beating already anemic earnings estimates by slashing payrolls and cutting production. In other words, the chorus singing ''Show me the money,'' or in this case, ''Show me the growth'' is growing ever louder.

Last week's 2.5% rally for the S&P 500 bumped valuations to nearly 20 times reported earnings from continuing operations of the member companies, the highest level since 2004, according to Bloomberg data. If that does not convince you that stocks are richly valued at current levels, perhaps this next tidbit will. At the end of August, the P/E ratio for the S&P 500 was an eye-popping 129.2. That figure assumes the previous four quarters worth of reported earnings for the period that ended on June 30, 2009. And since the market is up since the end of August, it's safe to assume the S&P 500 P/E ratio now hovers in the mid to high 130s area. Probably not a sustainable level.

A press report I read over the weekend said the trailing four quarters showed S&P 500 earnings of $7.51. Two years ago, that figure was $84.92, but the P/E ratio then was less than 18. Another way of describing this scenario is to say what many already know: Stocks certainly benefited from earnings estimates that were pared, pruned and every other adjective that means cut to such low levels that most companies could not help but beat analyst forecasts.

S&P 500 P/E Ratio

All of that is useful information, particularly with another earnings season right around the corner, but it is bigger picture stuff and probably only played a small role in Monday's glum market action. With a Federal Reserve meeting looming on Wednesday, energy issues took it on the chin today. The October crude oil contract expires on Tuesday, so traders shifted their focus to crude for November delivery, which fell $2.56 to close at $69.93 a barrel, marking a third consecutive day of declines. Platts reported that Chinese oil demand tumbled 5.4% in August from July. Allow me to be candid: It is not a good sign for oil bulls if the Chinese are tempering their demand for black gold.

Not surprisingly, 33 of 40 energy names tracked in by the S&P 500 slid on the day leading to declines for ExxonMobil (XOM) and Chevron (CVX) and that of course weighed on the Dow as both stocks are Dow components. On a percentage basis, the two companies were down less than one percent each, but the oil services names endured steeper declines. Halliburton (HAL) slid 2.5%, Transocean (RIG) fell 2.2% and Schlumberger (SLB) and National Oilwell Varco (NOV) were both down well over one percent each.

Of course, oil's failure to hold $70 and make its way above $75 a barrel is not the best news for one of my favorite ETFs, the Oil Sevices HOLDRs (OIH). With Monday's close at $117.81, OIH is nearly as close to its 52-week high as it to its 52-week low. I don't know if that means anything, but it does appear that OIH needs to break $120 to induce some fresh buying. I have include the OIH chart and a crude chart to illustrate the correlation between oil services names and the underlying commodity.

Crude Chart

OIH Chart

When I wrote last Thursday's market wrap, I noted that the declines that day were not led by financials and materials stocks. The same cannot be said for Monday's action and as far as the commodities patch is concerned, it was fairly easy to predict a down day for the group after fertilizer giant Potash (POT) warned of lower 2009 profits after the close on Friday. Bad news on a Friday afternoon rarely turns into positive things the following Monday and Potash was no exception, falling 4.2% after saying it will earn $3.25-$3.75 a share this year, below analyst estimates and its own previous guidance of $4 to $5 a share.

Rival Mosaic (MOS), the second-largest crop nutrient maker in North America tumbled 5.2%. Fertilizer stocks have a deep correlation to oil prices as well and crude's drop did nothing to help the likes of Potash and Mosaic. Rather than rattle off all the agriculture-related names that were taken to the woodshed today, I will just mention the Market Vectors Agribusiness ETF (MOO), which holds names like Potash, Mosaic, Monsanto (MON) and Deere (DE). The ETF was down today and the chart might be saying the ETF could challenge support at the 50-day moving average of $37.84.

MOO Chart

As I mentioned earlier, investors may be starting to demand more from stocks and that means they want to hear some good news (finally) about top-line growth. One place where they are not going to find it is Caterpillar (CAT). The world's largest maker of construction and mining equipment said in an 8-K filing today that global sales were down 48% in August compared with August 2008. North American sales slid 57% in August. Not good news and even worse when considering the June and July sales declines were 47% and 48% respectively.

Then again, it appears that some of this dour news is priced into Caterpillar's stock as the shares are up about 65% in the past three months. That is correct. A stock whose sales have been falling by nearly 50% a month on a year-over-year basis for the past three months is up 65% in the same time. At its core, Caterpillar, a Dow component, is a good company, but it probably is not a good company right now. This would be a fine example of why many consider the current run in stocks to be a tad overextended.

And it is not really a true day of declines without the financials, which endured the biggest drop among the 10 S&P 500 industry groups. Bank of America (BAC) was in the spotlight on news that the largest U.S. bank will drop a loss-sharing agreement with the Treasury Department and Federal Reserve related to the acquisition of Merrill Lynch. Exiting the agreement will cost Bank of America $425 million.

Bank of America is also drawing the ire of a congressional oversight panel by missing a Monday deadline to provide the panel with documents pertaining to the Merrill Lynch acquisition. Bank of America officials will meet with the panel's chairman, Rep. Edolphus Towns (D-NY) on Tuesday. It is hard to speculate on what the outcome of those talks will be, but Bank of America shareholders, at least the long-term investors, can only hope that the Merrill buy will eventually pay dividends. In the near-term, the addition of Merrill is a real thorn in Bank of America's side.

And speaking of finanicals, there is an active Treasury auction schedule this week. Monday saw the auction of four and six-month bills and Tuesday brings an auction of four-week and one-year bills and two-year notes. A five-year note auction is slated for Wednesday and a seven-year note auction is scheduled for Thursday.

Normally, these Treasury auctions are not the biggest deal in the world. At this point, nearly everyone knows that Uncle Sam has an addiction to spending and that he needs a way to finance something in the order of $9 trillion in deficits, but what is curious is something I mentioned earlier this summer and that is who is buying the Treasury's various offerings.

I mentioned in a previous wrap that the Fed's balance sheet was rapidly expanding due to its rampant purchases of Treasuries, designed to give the impression that demand is more robust than it actually is. Well, I found more information over the weekend that indicates there is something to this theory. In fact, it is not a theory. In the second quarter, the Fed purchased $164 billion in Treasuries compared to a combined $130 billion for foreign entities and households. Foreign purchases of Treasuries declined 40% in the second quarter from the first quarter. Have a look at the chart below to see how bad the situation really is.

Treasury Purchases

With an eye toward Tuesday, it would not be surprising to see tepid volume as the Fed begins its two-day meeting and the economic docket thin. The Federal Housing Finance Agency is scheduled to release its July home price index at 10 A.M. EST. Economists are expecting 0.5% increase to follow up on the same increase in June.

There are a couple of earnings plays before the bell tomorrow. CarMax (KMX) is expected to post a profit of 18 cents a share. Carnival (CCL), the cruise operator, is expected to earn $1.18 a year and food maker ConAgra Foods reports as well. The average analyst estimate there is 34 cents a share.

Looking at the charts, Friday's closed hinted at a strong up move for the S&P 500 that did not materialize today, perhaps giving more ammunition to those that reside in the overbought camp. A string of closes below the 1068 area could take the index even further down, probably below 1060. The 1060 area should act as a support, but a violation of that level means 1045-1048 should come into play. From there 1022 becomes an issue.

Taking a fundamental and longer-term view, with the expectation that the financials will complete massive write-offs in the fourth quarter and that annual S&P earnings are expected to return to $41-$45 thereafter, a P/E ratio ratio of between 25 and 30 should be enough to get the S&P 500 above 1100, if not higher.

S&P 500 Chart

The Dow technicals paint a similar picture with patterns that usually mean a downside move is imminent turning quickly into upside breakouts. The 9820 area now appears to be acting as resistance though further closes below 9800 could bring the 9645 area into play. If the bulls can stave off all this overbought talk and break 9850, 9921 could be the next minor hurdle on the Dow's trip to 10000. If the Dow and S&P enter into consolidation patterns that could mean both indexes are vulnerable to downside breaks.

Dow Chart

The Nasdaq's Monday ''leadership'' likely does not mean much in the big scheme of things given the lukewarm increases, but the index's move to the psychologically important 2150 is worth watching. This is the next critical level for the Nasdaq to clear and if it fails there, a tumble down to 2122 could be in the works. For you indicator lovers, the 14-day RSI for the Nasdaq is just above overbought territory at 73.42 and the Stochastics show a steep overbought condition, residing near 96.

Nasdaq Chart

Tuesday will likely bring another lethargic day as a lack of scheduled catalysts and the Fed meeting will probably keep volume light. That said, the bulls do have an ideal opportunity to catch the bears sleeping and at least take back some of Monday's losses. If not, a second consecutive day of losses, even if those losses are muted, will only stoke the flames of the overbought/overextended crowd.

Keep in mind that since July 3rd, the S&P 500 has only declined for three consecutive two times, July 27-29 and August 31-September 2. In other words, this market is not accustomed to consecutive declines so it will be interesting to see if ''buy the dips'' holds up again tomorrow. I am filling in for Jim tomorrow, so I will see you again in 24 hours.